A relatively high dividend yield is alluring but it can also devastate the investor who buys only because of the yield. The problem is that payouts can be very misleading because they often continue for a time beyond ample earnings, and thus fool the buyer of the shares.
An example is MNC Financial -- Maryland's largest bank holding company -- which sold in the 20s throughout 1989 and into 1990. Just two years ago, earnings appeared strong and the dividend was going up, but what was not evident to the investing public was the massive amount of potentially poor commercial real estate loans held by MNC's banking outlets.
Last year, the share price of MNC fell to near 10 where the price-earnings ratio (per-share earnings divided into the share price) was low and the dividend yield was in double digits. It takes a considerable number of news stories and time for the general public to realize the great risk of a particular investment. So, during a period when big investors may be selling, smaller investors acquire shares that have declined and which may appear to a bargain.
At year-end MNC eliminated its dividend. Today, MNC is barely above $3 a share and while the holding company and its banks may progress in a leaner way, a dividend restoration likely is years away.
Shareholders of Bethesda-based Marriott Corp. have been shocked as earnings and the share price plummeted.
Marriott was a premier growth stock for most of its history -- the company went public in 1953 -- increasing value through expansion of its restaurant and food-catering businesses as well as hotels. But the economic slump has cost Marriott in two ways: private investors in the important hotel business lack cash, and sales at the retail level are sluggish.
Marriott earned $27 million in its second quarter, down more than 40 percent in the same period a year ago. Earnings started going down in 1989 when the hotel market turned soft.
While many long-term holders of the stock have done well, more recent investors have not. Since a 5-for-1 split in 1986, Marriott shares have lost over half their value, trading at about 18.
Specialty fashion stores that cater to the young, such as The Gap and The Limited, have come through the recession much better than most other businesses. Merry Go Round Enterprises of Joppa -- a rapidly growing chain of 750 clothing stores, also catering to the young -- is a standout retailer growing through expansion.
It has reported impressive earnings despite the soft retail market, and yesterday said its five-week sales soared 29 percent, including a healthy 7 percent for stores open at least a year.
Merry Go Round is generous with stock payouts, and it has a small but growing cash dividend. Someone who owned 100 shares of Merry Go Round early last year would now have three times that amount, thanks to a 4-for-3 stock split in March last year, a 3-for-2 split last January, and another recent split of 3-for-2. Meanwhile, the stock has continued to appreciate -- at 20 1/2 it's near its all-time high -- and management foresees bright sales and earnings in coming years.
Merry Go Round's P-E ratio is in the mid-20s, comparable to the P-Es for Gap and Limited.
The high P-E reflects solid growth, but inherent with it is risk. Should the pace of earnings slow -- they don't have to decline -- the share price would likely tumble. But if earnings continue to rise, the share price will do very well because every 10 cents of new earnings is worth about 2 1/2 points.
Donald Saltz, a Maryland native and a business reporter, will write a weekly guide following Maryland companies for stock market investors.