TMUS - Lessons From Medical Properties Trust Stock's Implosion

2024-01-15 23:00:25 ET

Summary

• Using dividend yield as a starting point for stock analysis is a mistake that can lead to poor returns.
• The popularity of dividend investing has caused stocks with high dividend yields to be overpriced.
• Dividends should be one of the last factors considered in stock analysis, not the first.

Introduction

In this article, I will use a case study of Medical Properties Trust ( MPW ) stock as an example of why starting a stock analysis by examining the dividend yield is a bad idea for investors.

Every weekday morning I wake up and analyze 10 stocks before breakfast. Then, later in the day, I analyze additional stocks that people ask me about. I actively track about 600 stocks for potential purchases. And, occasionally, I will write an article or produce a video about one of these stocks. I answer almost every comment I receive on my articles and videos. This means I interact with a lot of investors and cover a wide variety of stocks. Additionally, I use multiple stock investing strategies, so I view stock investments from many different angles while trying to match them with the most appropriate techniques for predicting their future medium-term values. Because I examine so many stocks from so many different angles and interact with so many different investors I can often see patterns others don't notice. One of the patterns that has emerged over the past decade has been investors who begin their stock analyses by focusing on the dividend yield of the stock.

This trend is important because using the dividend yield as a starting point of an analysis is a terrible mistake for investors. Additionally, using an investing strategy that is very popular at any given point in time -- as dividend investing is right now -- will almost always produce poor medium-to-long-term returns. Investors who want good returns should avoid these two mistakes.

Disproportionate Popularity

Nearly every week for the past two years an article on Medical Properties Trust has graced Seeking Alpha's trending page, yet, MPW is a very obscure business and stock. Below, I compare MPW's market cap to Lincoln National ( LNC ) which was the smallest business by market cap in the S&P 500 in 2023 before being booted out of the index.

For most of this time, MPW was half the size of the relatively tiny LNC. And the stock prices followed similar patterns during the recent downturn. However, MPW has had 10x as many articles written about it on Seeking Alpha over the past 3 years compared to LNC. Additionally, MPW's ticker has over 82,000 followers on SA, while LNC's has about 15,000. I think this difference in popularity (especially when one considers MPW has never even been in the S&P 500 index) is mostly because MPW's dividend yield has been 2x to 4x higher than LNC's during this time period.

The truth of the matter is that if investors didn't start their interest in MPW by looking first at the dividend yield, the stock would have already withered away into total obscurity along with the hundreds of other failed stocks over the past 3 or 4 years.

It's really because of dividend investing's popularity that anyone paid much attention to this stock at all. And MPW isn't alone. T-Mobile's ( TMUS ) ticker has about 70,000 followers, while AT&T ( T ) has 567,000 followers and Verizon ( VZ ) has 358,000. AT&T and Verizon have historically had above-average dividend yields while T-Mobile had none. So T and VZ are both popular high-yielders, while TMUS is not. Let's look at their total return stock performance over the past decade:

Over the past decade total returns for both T and VZ have been about the rate of inflation, so investors have made nothing in real terms for a decade. Meanwhile, the competition, TMUS, returned over 10x that. The only explanation for so many followers of T and VZ relative to TMUS is that T and VZ had higher-than-average dividend yields.

It's important to point out that this is the result of a confluence of two factors, and not just dividend investing itself. Dividend investing itself, when unpopular and when the yields of relatively good-quality businesses are high, can be a very good investing strategy. I, myself, have a dividend investing strategy. So there is nothing fundamentally wrong with dividends themselves. The main problem is that dividend investing is too popular, so the prices of dividend-paying businesses have been trading at extremely high prices. Because of this, I haven't bought a stock based purely on its dividend prospects in years. Frankly, most dividend stocks, especially the more stable ones, are in a big bubble.

The Problem Is Starting With Dividend Yield

With any good stock or business analysis, dividends should be one of the last things an investor looks at. This is because dividends come from earnings, and are not in addition to earnings. (For an entire article on this topic, please read " Avoid This Common Dividend Investor Mistake ".) Therefore, it is a very big mistake to start a screening or an analysis of a stock with the dividend yield, dividend record, or dividend growth.

Why is this so?

There are two important reasons. The first is fundamental, and the second is psychological. As I noted earlier, dividends come from earnings and cash flows. First, a company has to earn money before it can pay a dividend. Usually, it is best if a company uses its earnings to grow through reinvesting in its current business. If there isn't a good way to do that and grow the business, then they can use their earnings to pay down debt, buy another business, stock buybacks, or dividends. Berkshire Hathaway ( BRK.A ) ( BRK.B ) has shown it's possible to grow quite big simply by allocating capital rationally and not paying a dividend. The market, over the long term, doesn't care about dividends. Otherwise, Berkshire wouldn't be valued as highly as it is by the market after 50 years of essentially no dividends. It really only makes sense to pay dividends when a business can't grow at a decent rate anymore by the other methods.

This means the times when dividends matter to investors are rare. I wrote about those times in the article " The Four Cases When Dividends Matter ". So, we have a situation where long term the market doesn't usually value a business based on its dividends. Once we understand this, we can see why it is irrational to search for stock investments or to begin an analysis of a stock, by first starting with the dividend. It would be like starting a search for a life partner by first filtering by eye color. It would leave you with a much smaller subset of partners from which to choose with no significant benefit. And if that eye color happened to be popular with others, your competition for this sub-set of partners might be keen. This lowers the odds of you finding the best partner. Stocks aren't much different.

The second reason why it's a mistake to begin an analysis with the dividend is one I haven't written about before, and that's the psychological reason. One of the benefits of focusing on the dividend yield instead of, say, the stock price movement is that it can potentially keep the average investor from selling an otherwise good business during a downturn because the dividend is typically less volatile. That can be a good psychological benefit of dividend investing in certain circumstances. But there is a downside to this psychology as well. When the price of a stock goes down for legitimate reasons, the dividend often stays the same so dividend yield goes up, making the stock more attractive from a dividend perspective. And if an investor finds a stock or is initially attracted to a stock because of its dividend, that can make an otherwise bad or risky business feel more attractive. The investor then starts with an optimistic disposition when analyzing the stock and is more receptive to turnaround stories from bulls. They may even be tempted to add to their positions if they already own the stock.

I'll give one more example here before moving on to MPW specifically. A stock I have written about and have owned since March 2020, AutoZone ( AZO ), and their competitors, O'Reilly ( ORLY ) and Advanced Auto Parts ( AAP ) are all in the same auto parts business and have 20,000 to 25,000 ticker followers on SA. So, they have about equal popularity by that measure. AutoZone and O'Reilly do not pay a dividend. Advanced Auto Parts does. There have been roughly the same number of "Sell" or "Strong Sell" rated articles (4-6) written on the three stocks since 2018. From the outside, these businesses and stocks are being treated as if they are very similar in terms of quality by analysts and readers on SA. But let's look at the performance of the stocks:

It's very hard to explain the difference between popularity and performance without selecting the dividend as a major influence in this case yet again. We see the problem here because, by the time AAP cut its dividend last year, investors had already suffered major losses, both in real terms and opportunity cost. The dividend cut is what comes last when there is no other choice. Before the dividend cut last year, my AAP "Sell" article was the only one written on AAP in 3 years despite its underperformance to peers. Investors found the dividend attractive enough to overlook AAP's shortcomings.

To sum up, dividends are one of the last factors an investor should check when they are analyzing a stock. Earnings and cash flows will always be what the market values most longer term. We are in an unusual dividend investing bubble right now, which is likely to slowly deflate over time, stock by stock. While there can be some psychological benefits to focusing on dividends during a recession or bear market, there are psychological drawbacks as well, like being too optimistic regarding bad or dying businesses.

Medical Properties Trust & REITs

What investors need to understand about REITs is that in the vast majority of cases, their success depends on creating a positive feedback loop over time of ever-increasing asset prices and stock prices. And the rising asset prices are mostly determined by interest rates and credit conditions. This creates what is basically a rollercoaster effect where there is a slow uphill appreciation process while going up, often with a rapid drop when these trends reverse. Dividends are used to pull investors into REITs to help prop up the stock prices which are an important part of the feedback loop. This creates a situation where most of the time REITs are only good investments during the climb up. And the only good REITs are the ones who have demonstrated success at creating this positive feedback loop. Almost no REITs will produce good returns once the feedback loop is broken. I have created a REIT investing strategy in my investing group, The Cyclical Investor's Club that works on these principles, but I don't share the details publicly. If you would like a more detailed explanation, watch my video on Alexandria Real Estate ( ARE ) on my SA blog " A Lecture On REITs... ".

This is relevant to Medical Properties Trust because I used to own the stock in my investing group. I bought it on 1/25/21 and sold it about 8 months later on 8/17/21. The main reason I sold the stock at that particular time was that it wasn't behaving properly, and was performing weaker than it should have been. I sold it slightly early before my official sell parameters were fully met and replaced it with Agree Realty ( ADC ) which I still own (though it is not currently a "Buy"). Here is how that change has done.

While ADC hasn't done particularly well, and is slightly negative, needless to say, I'm glad I made the switch. I took a -4.48% loss on MPW when I sold, but have avoided a -70% decline and total disaster. While I was a little aggressive selling this REIT, by the spring of 2022 it would have clearly been a "sell" using my parameters.

I share all this in order to explain why, even though I haven't written about REITs publicly for many years, the case of MPW has kind of fascinated me. The puzzle of how so many investors and analysts could stay bullish on this stock for so long is extremely interesting (and also quite useful in understanding broader dividend investing psychology).

In the 18 months following my sale of MPW there were only 2 "Sell" rated articles written on Seeking Alpha. The rest wouldn't come until March 2023 when the stock was already down -65% off its highs.

I want to give kudos to both Peter F. Way, and Colorado Wealth Management for their sell calls on MPW. I almost never comment on other author's articles (because I'm usually busy answering comments on my own), but I took the time to comment Colorado's article "The Only Bear On Medical Properties Trust":

That comment was about a year and a half ago and I think it was the last comment on another author's article I've left. To put these bearish articles in context there were 3 "Sell" articles written before MPW had a significant decline, while, by my quick count, there have been 168 "Buy" or "Strong Buy" articles written since 2021 on the way down. So, while I've never written on MPW publicly before, I have been fascinated by it for several years now.

REIT Dividends Vs. Technicals

While I'm not going to share my entire REIT strategy here, I will provide a couple of pointers for investors who dislike losing money. When a REIT is both -20% or more off its peak, and below the 200-day simple moving average, investors are usually better off selling at that point in time.

For MPW this happened on 4/22/22 which is when both conditions were met.

Above we can see that it is below the 200-day simple moving average.

At the same time, the stock price was more than -20% off its high. That made it a "Sell" at that point in time.

It should not have mattered that the dividend yield was above 6% at that time. Here are the total returns since then:

And before anyone says "It was obvious MPW was a bad investment", I would point out that most REIT experts on SA declared MPW a "Buy" or "Strong Buy" during this period. They were likely looking at the dividend first when very basic technicals are actually the best indicators of REIT downcycles.

Putting This All Together

I am a firm believer in closely studying one's mistakes in order to improve as an investor. Those who don't do this will continue to make the same errors over and over again. It's even better if one can learn to avoid mistakes by watching others instead of making those mistakes personally. So, my hope is some readers will read this article and be able to avoid mistakes like MPW in the future. Here are my takeaways.

1. When a company has any sort of unusual accounting or business activity, sell first, and ask questions later. It doesn't matter what you paid for it and the loss you might take. Sell right away and never give management the benefit of the doubt. There are plenty of good businesses that don't have these issues one can invest in.
2. REITs are financially sensitive and deeply cyclical investments. When the stock prices fall more than -20% off their peaks, basic technicals break down, and the wider economy is in a late-cycle environment, sell those REITs quickly, and don't buy them back until we are early cycle again.
3. Don't try to buy turnaround stories before they have actually turned around.
4. Totally ignore the dividend when deciding to invest. Pretend it isn't there. Sure, the dividend will ultimately be part of the total return, but it will be more likely to cloud your judgment about the quality of the business and stock.

I want to drive home this last point about dividends the most. After following this stock for 3 or 4 years it is plainly obvious nobody would even know it existed if they didn't start first by looking at the dividend yield. The fact that investors have poured so much time, energy, and money into this stock is, frankly, a travesty. The dividend bubble we find ourselves in is mostly to blame. Seeing a high dividend is like hearing a siren song for investors and my experience the past few years is that entire fleets of retirees are sailing for the rocks. Odysseus had the sense to strap himself to the mast and fill his men's ears with wax in order to avoid the disaster that had claimed so many others. Dividend investors would be wise to do the same and not begin their analyses by looking at the dividend yield.

For further details see: