Catch This Shipper's Dividend at Low Tide

11/22/2010 12:00 pm EST

Focus: STOCKS

Bryan Perry

Editor, Cash Machine, Premium Income, Quick Income Trader, Instant Income Trader

Bryan Perry, editor of Cash Machine, recommends a leading tanker operator with a spill-proof dividend.

As crude and commodity prices push higher, day rates for transporting these raw materials around the world theoretically rise in reaction to increased demand. One of the most sensitive stocks to improving day rates for ocean-going crude and dry bulk is Frontline (NYSE: FRO), one of the two largest tanker operators in the world.

Frontline operates a tanker fleet comprising 76 vessels that transport crude from the Persian Gulf to the Far East, northern Europe, Atlantic basin and the Gulf of Mexico. Within FRO's fleet are oil/bulk/ore (OBO) carriers that hold mainly coal and iron ore. The company is based [in] Bermuda and is considered one of the most efficient operators in the shipping industry.

For 2010, charter day rates for shipping crude have been abnormally low, primarily due to the added tonnage of [new] vessels coming on-line at a time when demand is returning to pre-recession levels. Dry bulk rates have been firmer, but nothing like 2008, when day rates were 200% higher than at present for shipping crude and 400% higher for shipping dry bulk. As the global economy expands further, I expect prices for shippers to improve from their current trough levels as the slack in available fleet capacity is absorbed.

And the good news is that Frontline already has sown the seeds for higher dividend payouts. The trailing 12-month dividend was $1.90 and the forward annual dividend rate is $3 per share, translating to a 10.4% yield while sporting a payout ratio [of dividends to earnings] of only 60%. The five-year average yield for FRO is 14.6%, so there is definitely room for further dividend hikes so as to get back to its historical norm.

[Analysts’] consensus is that the company will see fourth-quarter 2011 revenues jump 32% compared with the same period in 2009. If all goes according to plan, FRO will beat estimates [when it reports on Nov. 30], provide confident forward guidance and declare another fat quarterly dividend.

Bear in mind, FRO raised its dividend in the second quarter while, at the same time, issuing caution about near-term day rate weakness. This tells me that they have hedged properly and locked in decent day rates to support the current quarterly dividend of $0.75. Logic would suggest that they factored in the current softness when they issued guidance and now look for day rates to firm going forward.

Frontline should be considered low-hanging fruit, ready to be picked. I view this trough in day rates as temporary and opportunistic. The stock traded as high as $70 in 2008. Today the shares trade [below $29] and were as high as $38 back in May. I feel confident that the company will at least maintain the current dividend payout and likely increase it in the fourth quarter based on its numbers.

FRO has a history of being a highly volatile stock. Timing is very crucial to getting this trade right and I believe the time to own FRO is now. Buy FRO under $30 with a price target of $40 during the next 12 months.

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