Rewards Checking Accounts Overview

Over the past several months the Federal Reserve has cut interest rates several times, decreasing the Fed Funds rate from 5.25% to 2.25% at its most recent meeting. This has lead to a decrease in the interest rates on many high-yield checking accounts. Savers currently have very few options in order to earn some interest on their extra cash - open high-yield accounts at places that offer a competitive yield and get a bonus or put their money in a rewards checking account.

Rewards Checking accounts typically offer an above average yield to customers who meet certain criteria:

1) Residency – Generally the customer must live within the area of the bank which opened their account or at least in its home state. However, there are some banks nationwide that offer rewards checking no matter where in the US you live.

2) Customer also need to have a direct deposit or an automatic bill pay set up

3) They need to access their bank statements online and forgo using paper ones. Familiarity and use of online banking is essential in rewards checking accounts.

4) A certain number of debit card transactions per month needs to be performed, typically 10-12

5) Most banks would limit the balance amount for which the high yield applies, after which the yield would drop to a much lower level. This limit is typically $25,000.

If you don’t meet the requirements, then your rate drops to a low base rate instead. These requirements vary from account to account though so be sure to read all the requirements before opening an account.
There are several positives on opening a rewards checking account:

1) You get an above average interest rate, even higher than most online high-yield accounts

2) Rewards Checking accounts are not tiered accounts that require you to reach a certain balance before you can earn the top yield. Any balance up to the cap will earn the full high-yield as long as you meet the minimum requirements every month.

3) Your account is FDIC insured, which means that if the bank goes bust you are insured up to $100,000 in regular bank accounts and up to $250,000 for certain retirement accounts.

4) Most banks offer you fee reimbursements for using other banks ATMs. Thus if you need cash and you are on the other part of the country you won’t have to worry about finding the right ATM.

5) This product is more profitable for the banks. This means that banks could re-invest profits in the business translating them into more goodies for the consumer.

There are several disadvantages on opening a rewards checking account:

1) If you conduct only 9 debit transactions as opposed to the minimum of 10 or do not fill in any of the other minimum requirements, you will lose your high interest rate for the month.

2) The interest rate on rewards checking is not set in stone for a particular period of time. The bank could change it at any time.

3) There is no incentive to save more money in your rewards checking account above the balance limit. If your balance exceeds the bank limit, you will be paid the rewards checking rate on the first $25,000 but a much lower rate on any amount over that threshold.

4) Rewards checking could be a bait and switch scheme. The above average rates might be used to lure the majority of consumers into online banking, debit card usage and paperless statements. Once the behavior of the customers is changed though, banks could decrease rates in rewards checking significantly.

5) Consumers who use the debit cards forgo earning rewards points if they were using certain rewards credit cards instead of using the debit cards.

So how can banks afford to pay interest rates of 2-3 percentages points above the rates on most high-yield accounts? It’s really simple actually.

First, when they train customers to use debit cards instead of checks, they cut costs on check processing. Banks also earn money each time you use your debit card. Most consumers make a higher number of debit card transactions than the minimum requirements.
Second, by encouraging customers to bank online and receive online statements, banks save on sending paper in the mail (think postage). They also do not need as many branches as a brick and mortars bank, with drive-thru windows and extra tellers. (think administration costs)
Third, rewards checking accounts increase customer’s loyalty to the bank.
And last but not least rewards checking accounts have lead to an increase in NSF fees to consumers who over drafted their accounts.

PS Oh, and while you are on your mid-morning coffee break, why don’t you trot over to the 149th Canival of Personal Finance being hosted over at Happy Rock to see what I and other PF bloggers have to say?

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USB Dividend Analysis

U.S. Bancorp operates as the holding company for U.S. Bank that provides commercial banking and financial services in the United States. It generates various deposit products, including checking accounts, savings accounts, money market savings, and time certificates of deposit accounts.

It is a dividend aristocrat as well as a major component of the S&P 500 index. It has been increasing its dividends for the past 36 consecutive years. One of USB’s stockholders is no other than the Oracle of Omaha, one of the best investors in the world. From 1998 up until 2007 this dividend growth stock has delivered an annual average total return of 4.60 % to its shareholders. The stock has been trading in a range over the past decade.

At the same time company has managed to deliver a 9.30% average annual increase in its EPS since 1998.

The ROE has been stable above 18% in all years except 2001.

Annual dividend payments have increased over the past 10 years by an average of 12.70% annually, which is significantly above the growth in EPS. A 12.7 % growth in dividends translates into the dividend payment doubling almost every 6 years. If we look at historical data, going as far back as 1992, USB has actually managed to double its dividend payments every five years. The company last increased its dividend in 2007 by 6.25%.

If we invested $100,000 in USB on December 31, 1997 we would have bought 2680 shares (Adjusted for a 3:1 stock split in May 1998). In February 1998 your quarterly dividend income would have been $370.75. If you kept reinvesting the dividends though instead of spending them, your quarterly dividend income would have risen to $1576.75 by December 2007. For a period of 10 years, your quarterly dividend income has increased by 207 %. If you reinvested it though, your quarterly dividend income would have increased by 331%.

The dividend payout has increased from 50% in 1998 to more than 65% by the end of the study period. It has remained over 50% for the majority of the study period. A payout above 50% is a warning sign, since it leaves dividends exposed to fluctuations in earnings. Over the past 10 years the stock returned 2.80% on average on each year after the payout was above 50%; the stock returned 12% on average after each year that the dividend payout was below 50%.

Currently, USB looks cheap with its low price/earnings multiple of 13.70 and above-average yield at 5.00%. The high dividend payout ratio however is a warning sign that dividend growth might be less spectacular in the future. I would consider initiating a small position in the bank. I would consider initiating a full position in USB when the payout falls below 50%.

Disclosure: I do not own shares of USB

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Emerson Electric (EMR) Dividend Analysis

Emerson Electric Co., a diversified global technology company, engages in designing and supplying product technology and delivering engineering services to industrial and commercial, and consumer markets worldwide. It operates in five segments: Process Management, Industrial Automation, Network Power, Climate Technologies, and Appliance and Tools.
EMR is a dividend aristocrat as well as a major component of the S&P 500 index. It has been increasing its dividends for the past 50 consecutive years. From 1998 up until 2007 this dividend growth stock has delivered an annual average total return of 10.50 % to its shareholders.

At the same time company has managed to deliver a 7.50% average annual increase in its EPS since 1998.

The ROE has increased from its early 2000’s lows at 15-17% to 24% in 2007.

Annual dividend payments have increased over the past 10 years by an average of 7% annually, which is equal to the growth in EPS. The annual growth in dividends has directly traced the fluctuations in EPS growth. A 7% growth in dividends translates into the dividend payment doubling almost every 10 years. If we look at historical data, going as far back as 1989, EMR has actually managed to double its dividend payment every nine years.

If we invested $100,000 in EMR on December 31, 1997 we would have bought 3720 shares (Adjusted for two 2:1 stock split in December 2006). In February 1998 your quarterly dividend income would have been $549. If you kept reinvesting the dividends though instead of spending them, your quarterly dividend income would have risen to $1419 by November 2007. For a period of 10 years, your quarterly dividend income has increased by 103 %. If you reinvested it though, your quarterly dividend income would have increased by 159%.

The dividend payout increased from 43% in 1998 to more than 65% in the early 2000’s before settling back to 40% in 2007. A lower payout is always a plus, since it leaves room for consistent dividend growth minimizing the impact of short-term fluctuations in earnings.

I think that EMR is attractively valued with its low price/earnings multiple of 19 and yield at 2.20%.

Disclosure: I own shares of EMR

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Dividend Increases in March

Several Dividend Aristocrats have increased their dividends in March. The companies are:

COMPANY TICKER NEW OLD % Change
Air Products & Chem APD 1.76 1.52 15.79%
Chubb Corp CB 1.32 1.16 13.79%
Wal-Mart Stores WMT 0.95 0.88 7.95%

From this list, all three companies seem to fit my fundamental criteria. You could read my analysis on CB and WMT.

Expected dividend increases in April

Based off historical information from this spreadsheet, I would expect that the following companies increase their dividend in March: XOM, GWW, PG and JNJ ( Thanks for reminding me about thelast one MoneyGardener). These dividend aristocrats have last increased their dividend payments in April 2007. Upon a closer examination of the dividend growth stock behavior of the 60 dividend aristocrats, it seems that every month there is at least one company that raises its dividend. It’s nice to get a pay raise every month. The only dividend growth stock that has consistently increased its dividend twice in one year since 2003 is STT- State Street.

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ROH Dividend Analysis

Rohm and Haas Company provides various specialty materials primarily for use in the building and construction, electronics, packaging and paper, industrial, transportation, household, personal care, water, and food markets

The company is a dividend aristocrat as well as a major component of the S&P 500 index. From 1998 up until 2007 this dividend growth stock has delivered an annual average total return of 8.20 % to its shareholders.

At the same time company has managed to deliver a mediocre 2.4% average annual increase in its EPS since 1998.

The ROE has been volatile over the past decade falling as low as a negative 18% in 2002 until settling in the low 20s percent by 2007.

Annual dividend payments have increased over the past 10 years by an average of 8.60% annually, which is above the growth in EPS. A 9% growth in dividends translates into the dividend payment doubling almost every 8 years. If we look at historical data, going as far back as 1989, ROH has actually managed to double its dividend payments every nine years.

If we invested $100,000 in ROH on December 31, 1997 we would have bought 3277 shares (Adjusted for a 3:1 stock splits in 1998). In February 1998 your quarterly dividend income would have been $546.18. If you kept reinvesting the dividends though instead of spending them, your quarterly dividend income would have risen to $1525.88 by October 2007. For a period of 10 years, your quarterly dividend income has increased by 122 %. If you reinvested it though, your quarterly dividend income would have increased by 179%.

The dividend payout ratio has closely followed the volatility in EPS.

I think that ROH is attractively valued with its low price/earnings multiple of 18 and above-average yield at 2.60%. I think however that the best strategy in accumulating ROH is to spread my purchases over four payments as opposed to investing all my money at once. I would be a buyer at current prices, at dividend yields at 3%, 3.50% and 4% in order to compensate for the lack of any significant EPS growth over the past decade. At 1.48 Dividends per share, the levels come up to $49.33, $42.29 and $37.

Disclosure: I do not own shares of ROH

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