In this edition of ‘Stock Teasers’ we are going to be looking at a submission to /r/CanadianInvestor on Reddit where the user is asking why Telus (T) stock has been declining and if it will continue. Let’s dive in!

The telecommunications (or telcos) stocks have certainly been a frustrating hold for many Canadian investors over the past few years. These were traditionally known as blue chip dividend paying stocks, that have now seen double digit declines back to price levels from 10 years ago. These types of moments can test both an investors’ patience and their wallet, but in this blog we want to dive into reviewing what type of thesis is broken or simply needs more time.

Source: Reddit

'Blue Chip' and Dividend Yield

Telus (T) is a large Canadian telco name ($32 billion market cap) that currently pays an attractive dividend yield of 7.2%. Over the past 20 years, its dividend yield has averaged 4%, and the recent rise in yield can mostly be attributed to its quick share price decline. In the graph below we show the price of the stock over the past 10 years, along with its dividend yield and price return. We can see the further its price return drops, the higher its yield rises. This inverse relationship will only last as long as T continues to payout the same or higher dividend payments – which is of course, on top of investors’ 

For a long time, Telus provided a good yield, alongside steady revenue growth and healthy debt levels. Although, the recent rise in interest rates has hindered Telus’ free cash flow, and margins have begun to take a hit. The combination of relatively attractive yields from cash products like HISA ETFs and bonds have taken away from the dividend profile of telco stocks, and the rise in interest rates have impacted highly capital-intensive names like T. 

Dividend Sustainability and Returns

We feel Telus’ payout ratio seems sustainable from its current levels, with last-twelve month free cash flows of $1.67 billion against last-twelve month dividend payments of $1.36 billion (an 81% payout ratio). While the recent drawdown in price is discouraging for long-term and recent investors, it continues to have fairly attractive long-term returns – a 25-year total return CAGR of 7.8% and a 10-year total return CAGR of 6.0%. 

The Importance of Investor Sentiment

In investing, sentiment is crucial, and investing sentiment can be fickle. Selling often begts more selling as investors start to worry. Stocks can often overshoot to the downside, that being said, T does have issues and high debt levels it does need to deal with. Its dividend growth might slowdown, but largely, we feel that as the broader interest rates continue to decline that sentiment in the name can improve. Interest rates declining will make traditional cash product yields look less attractive, and can also improve the financial situation of Telus. 

Overall, we do not believe that the ‘thesis’ for telcos and Telus in particular is broken, but rather that sentiment in the names are broken. Oftentimes a string of positive days can help improve sentiment, and we feel some catalysts for improved sentiment include less attractive yield profiles from other investment products (mostly cash products) and improving financials and outlook from T as rates decline. One thing we know, when investors en masse hate something and start selling, there is often an opportunity created.

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