Midcap stocks are the sweet spot of the stock market. Billionaire investors are showing lots of love for these six midsized dividend payers.
Whether you are new to investing or a veteran of the stock market, you may have heard of the efficient market theory, which posits that all public and private information is already factored into a stock’s price and that there is no room for accumulating excess profits. It sounds like a reasonable assumption, but in the interest of historical accuracy, it must be noted that some investors have a much better track record than others, making them worthy of emulation by enterprising investors. Skill does matter.
Since 1983, Forbes magazine has been chronicling changes in the wealth of the world’s richest people and doing it via official rankings on the Forbes 400 and more recently its annual ranking of the World’s Billionaires. Some of these mega-wealthy individuals are entrepreneurs like Bill Gates, Jeff Bezos and Elon Musk. But according to our records, the largest concentration of billionaires in the Forbes 400 comes from investing and finance, like Warren Buffett, who is noted for decades-long holdings of stocks and a net worth that currently exceeds $110 billion.
For investors interested in successful long term investing, stock size apparently matters. Studies by Eugene Fama and Kenneth French at the University of Chicago show that smaller stocks produce higher returns over the long haul, even if they carry higher risk and volatility in the near term. Confirmation in the real world is provided by Roger Ibbotson’s research into U.S. stock market returns going back to 1926 showing large capitalization stocks with 10% annualized returns over the past 97 years, compared to 12% for smaller sized stocks.
The biggest stocks have produced the biggest gains in 2023, but since the turn of the 21st century, the sweet spot in stocks has been right in the middle of the market. Midcaps are stocks with total market capitalization between $2 billion and $10 billion. From July 12, 2000, until July 12, 2023, the S&P Midcap 400 Index has returned 547%, trouncing the 358% total return for the large-cap S&P 500 Index. The Russell 2000 Small Cap Index, a popular proxy for stocks below $2 million in market value, returned 380% over the past 23 years.
Zooming in to look at much more recent history, midcaps have ruled the roost since the start of June. The S&P Midcap 400 is up 11.7% since the start of June, versus 7.1% for the S&P 500 and 10.7% for the Russell 2000.
With midcap stocks demonstrating their outperformance, and billionaire investors showing that they know how to beat the market, combining these two principles produces several stock ideas with potential for outsized returns. If you like the idea of dividend income, you will not be disappointed. Below are six dividend-paying midcap stocks recommended in the Forbes Billionaire Investor newsletter in which billionaires have significant and ongoing ownership stakes according to their most recent required regulatory filings to the U.S. Securities & Exchange Commission. Average dividend yield is 3.7%.
Lancaster Colony (LANC)
Market Cap: $5.2 billion
Dividend Yield: 1.8%
Billionaire Holders: Ken Griffin – Founder and CEO, Citadel, Ken Fisher – Founder and Executive Chairman, Fisher Investments, Ray Dalio – Founder, Cochairman and Co-Chief Investment Officer, Bridgewater Associates, Jim Simons – Founder, Renaissance Technologies, Israel Englander – Chairman, CEO and Co-Chief Investment Officer, Millennium, Clifford Asness – Founder, AQR Capital Management
Despite the uncertain economic situation, the outlook is bright for Westerville, Ohio-based Lancaster Colony (LANC). The company is a maker of specialty food products, including Texas Toast frozen breads and croutons, as well as refrigerated and shelf-stable salad dressings and dips. Lancaster Colony does 55% of its business selling through the retail channel and 45% through foodservice deals with restaurants like Chick-fil-A and Arby’s. It also sells bottled sauces in grocery stores from these brands, as well as from Buffalo Wild Wings.
Inflation in raw materials, packaging and freight have been challenging, but the company has been able to counter the effects through higher prices. Retail channel sales rose 5.6% in the fourth quarter of 2022, and foodservice revenue jumped 19.2% to $258.8 million. For 2023, revenue is expected to rise 8.7% to $1.82 billion, with earnings up 2.3% to $5.34 per share.“We expect retail sales to benefit from our expanding licensing program, while in the foodservice segment, we anticipate continued volume growth,” said CEO David Ciesinski. “Cost inflation will remain a headwind for our financial results, but we expect our pricing actions and cost savings initiatives to offset the increased cost.”
Higher sales and profits allow Lancaster Colony to maintain its track record of escalating the quarterly dividend, which has grown 9.1% annually since 2017. The company, which is debt-free and holds $95.5 million of cash on the balance sheet, has hiked the dividend annually for the past 60 years.
Lancaster Colony has been able to stay out of debt and to keep on paying ever-higher dividends despite significant investment in expansion of a dressing and sauce facility in Horse Cave, Kentucky, the largest plant in the company’s manufacturing network.
Werner Enterprises (WERN)
Market Cap: $2.8 billion
Dividend Yield: 1.3%
Billionaire Holders: Ray Dalio, Bridgewater Associates, Israel Englander , Millennium, Clifford Asness , AQR Capital Management, Steven Cohen – Founder, CEO, Chairman, Point72.
As the economy has remained stubbornly strong, the trucking business has reaped the rewards via higher rates for carrying freight. Declining fuel costs have also provided a boost over the past year. Omaha, Nebraska-based Werner Enterprises (WERN) dates back to 1956, and today is one of the five largest national trucking and logistics companies, with more than 8,000 trucks, 24,000 trailers and 13,000 employees. In 2022 Werner posted revenue of $3.29 billion, up 20% from 2021, and operating income rose 5% to $323.1 million.
Werner continues to grow its fleet and footprint through acquisitions, buying two trucking companies in the fourth quarter of 2022. In November, Werner acquired Tampa, Florida-based truckload carrier and freight broker ReedTMS Logistics. One month earlier, it bought Indiana-based Baylor Trucking, adding 200 trucks and 980 trailers in the eastern U.S. The current cost environment makes it tough for smaller truckers to operate profitably.
“As the year plays out and there’s a large shortfall between spot rates and carrier operating costs, we expect carrier failures will increase, and this trend has already started,” said CEO Derek Leathers during Werner’s quarterly conference call in February. “While there remain macro uncertainties, the one thing I feel strongly about is that strong, well-capitalized carriers focused on operational execution will have an opportunity to shine.”
Southwest Gas Holdings (SWX)
Market Cap: $4.6 billion
Dividend Yield: 3.8%
Billionaire Holders: Carl Icahn – Founder and Chairman, Icahn Enterprises, Ken Griffin , Citadel, Steven Cohen , Point72, Mario Gabelli – Chairman and CEO, GAMCO Investors, Israel Englander, Millennium.
There are successful billionaire investors like Warren Buffett whose modus operandi is to place capital into thriving companies with capable management and to sit back and enjoy the benefits of owning part of the business. Others prefer a more pugilistic approach, purchasing stock to gain influence over corporate governance with the goal of shaking up the status quo and ultimately unlocking shareholder value. Perhaps nobody exemplifies the archetype of the activist shareholder better than Carl Icahn, who has been buying big stakes in companies and agitating for change for more than 40 years.
The target of one of Icahn’s current campaigns is Southwest Gas Holdings (SWX). The Las Vegas-based company at its core is a regulated natural gas utility, providing service to 2 million residential and commercial customers in Nevada, Arizona, and California. Gas distribution was the biggest component of annual revenue until 2018 when it was eclipsed by the company’s utility infrastructure subsidiary, Centuri, which digs trenches and does maintenance and repair on pipelines for utilities in the U.S. and Canada. In December 2021, Southwest Gas consummated its deal to acquire the Dominion Energy Questar Pipeline system in Utah, Wyoming and Colorado, which it rebranded as MoutainWest.
It was fierce opposition to the MountainWest deal that got Icahn involved with Southwest Gas in October 2021, as he began to build his stake and called out management for alleged ineptitude and dishonesty. He launched a $75 tender offer for the stock, and eventually raised the price to $82.50 before the offer concluded last May. Icahn nearly quintupled his initial ownership through last June, and over the past year he’s taken down another 5.75 million shares for a total stake of 10.85 million shares, or 15.2% of outstanding common stock.
Despite the pipeline deal coming to fruition, Icahn’s efforts at Southwest have borne fruit. The company did eventually divest the division, selling it to Williams Cos. last December. Icahn also succeeded in replacing the CEO and winning four seats on the board of directors.
While Icahn waits for a Southwest to unlock more value through greater efficiency and more asset sales, he enjoys a steady stream of dividends. The company has hiked the payout 8.4% annually over the past 10 years, and the current quarterly dividend is good for a yield of 3.3%.
Xerox Holdings (XRX)
Market Cap: $2.5 billion
Dividend Yield: 6.2%
Billionaire Holders: Carl Icahn , Icahn Enterprises, Ken Fisher, Fisher Investments, Ken Griffin, Citadel, Steven Cohen, Point72, Ray Dalio, Bridgewater Associates, Jim Simons Renaissance Technologies, Israel Englander, Millennium, Clifford Asness , AQR Capital Management.
Throughout the 20th century, two of the world’s most successful companies were both based in Rochester, New York and both in the business of putting images on paper. Eastman Kodak dominated consumer and commercial photography, and even invented digital photography, but failed to make the transition from film to silicon. The company filed for bankruptcy in 2012. Meanwhile, across town, the Haloid Photographic Company since 1906 was a market leader in photographic paper and equipment, and in 1961 was renamed Xerox after the company pioneered and popularized the plain-paper photocopier. Xerox developed many of the features found in modern personal computers, including the window-style graphical user interface exploited by Apple and Microsoft, but it never commercialized the innovations itself.
Today Xerox is headquartered in Norwalk, Connecticut, and following the divestiture of its Conduent business consulting subsidiary in 2017, it is focused squarely on serving large organizations with copying and printing equipment and services. More than half (57%) of its revenue comes from the U.S., 29% from Europe and the remainder from the rest of the world. Revenue this year is expected to creep higher by 1% to $7.1 billion, but earnings are forecast to fall 26% to $1.12 per share.
Free cash flow over the past 12 months totals $1.29 per share, which is sufficient for Xerox to keep paying a quarterly dividend of $0.25 per share. The payout has not grown in the past five years, but it does give the stock a meaty dividend yield exceeding 6%.
Controlling 22% of Xerox’s outstanding shares, the company’s largest shareholder is Icahn Associates Holding, headed up by veteran corporate raider and activist investor Carl Icahn, who has been involved with Xerox since 2015. With his ownership, Icahn has been a force in shaping Xerox’s corporate governance, succeeding in appointing directors to the company’s board and even replacing the CEO in 2018. Since 2020, Icahn has stepped up his buying of Xerox shares, most recently a personal purchase of $36.3 million in April. Icahn is not alone in seeing the potential for additional value in Xerox, with significant stakes held by seven fellow billionaire investors.
Phillips Edison (PECO)
Market Cap: $3.9 billion
Dividend Yield: 3.3%
Billionaire Holders: Israel Englander, Millennium, Steven Cohen, Point72, Jim Simons , Renaissance Technologies, Clifford Asness, AQR Capital Management, Ken Fisher, Fisher Investments, Ken Griffin, Citadel.
Shares of real estate investment trusts (REITs) are ideal securities for income-oriented investors and really for anyone interested in generating long-term total return from dividends and capital appreciation potential. Phillips Edison (PECO) is a mid-cap REIT out of Cincinnati, Ohio that specializes in ownership of shopping centers anchored by grocery stores.
You would be forgiven for assuming that the Phillips Edison name implies that the company is in the lightbulb or phonograph business, but this real estate business was founded in 1991 by two men named Jeffrey Edison and Michael Phillips. Edison is the current chairman and chief executive officer of Phillips Edison, which went public in July 2021, and he owns 335,000 of the 117.3 million shares outstanding.
PECO owns and operates a $6.2 billion national portfolio of 291 grocery-anchored shopping centers clustered in Florida, the Eastern Seaboard, the Midwest and along the Pacific coast. Top tenants as a percentage of total revenue are Kroger (6.2%), Publix (5.8%), Albertsons (4.1%), Koninklijke Ahold Delhaize N.V. (3.9%) and Walmart (2%). Revenue this year is expected to grow 6.6% to $597.5 million, with funds from operations up 6% to $2.28 per share.
Over the past 12 months, Phillips Edison generated free cash flow of $1.40 per share, which is comfortably above the $1.12 per share in annual dividends, which are paid monthly at the current rate of $0.0933 per month, good for a dividend yield of 3.3% at current prices. Dividend growth is also encouraging. Since its IPO two years ago, PECO has hiked its monthly payout at a 4.8% annual rate.
Kilroy Realty (KRC)
Market Cap: $3.9 billion
Dividend Yield: 6.6%
Billionaire Holders: Bruce Flatt – CEO, Brookfield Asset Management, Howard Marks – Co-Founder and Co-Chairman, Oaktree Capital Management, Ken Griffin , Citadel, Ray Dalio, Bridgewater Associates, Jim Simons, Renaissance Technologies, Israel Englander, Millennium, Clifford Asness , AQR Capital Management.
Employees in droves ditched the office during the pandemic to set up shop at home, but it turns out that rumors of the demise of the office may have been greatly exaggerated. By last August, 52% of professionals were reporting to work in the office, up from 39% two years ago, according to a survey of 253,000 professionals on LinkedIn. Another 17% are under a hybrid arrangement that still requires an office. Just 29% worked at home, down from 46% in 2020 during the dog days of Covid. With the scourge of “quiet quitting” spreading throughout the corporate world, CEOs especially in technology and finance are ordering their people back to work.
These trends augur well for Los Angeles, Calif.-based Kilroy Realty (KRC), a real estate investment trust and big player in prime west coast office space leased by companies in the technology and life sciences industries. It owns and manages 55 properties with more than 14 million square feet, located in Los Angeles, San Diego, San Francisco, Seattle, and Austin, Tex. Kilroy’s list of top tenants reads like the NASDAQ most actives, with names including Amazon, Adobe, Netflix, and Salesforce under multi-year leases. About 9.5% of rentable square footage comes up for renewal annually through 2032.
“Physical occupancy in our portfolio and the overall market continues to improve, and based on conversations with our customer base, we remain optimistic this trend will continue,” said Chairman and CEO John Kilroy. “The power dynamic is shifting to employers, who have consistently expressed a preference for in-person work.”
Trading at 7.4 times this year’s expected funds from operations, Kilroy is priced 51% below its 15.1 five-year average price-to-FFO multiple. It trades at a similar discount to its average price-to-book value ratio. These valuation discounts appeal strongly to value investors like Canada’s Bruce Flatt of Brookfield Asset Management, which established a position last year. Kilroy’s conservative balance sheet attracts people like Howard Marks who made his fortune in distressed debt and began buying the stock in early 2021. Flatt and Marks have a history of sharing: Brookfield purchased 62% of Marks’ Oaktree Capital Management in 2019.
Excerpted from recent issues of Forbes Billionaire Investor newsletter, which publishes monthly large cap and small- and midcap portfolios of billionaire-owned stocks.
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