These "Pick-and-Shovel" Investments Pay Double-Digit Dividend Yields

Nathan Slaughter
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Posted: Mar 22, 2012 12:01 AM

When gold was first discovered at Sutter's Mill in the foothills of California's Sierra Nevada mountains in 1848, thousands of people dropped everything and headed west with dreams of striking it rich.

Within a year, San Francisco was transformed from a sleepy outpost with a few dozen shacks into a bustling mining hub. As gold fever spread, would-be prospectors poured in by the boatload from as far away as Chile and Hawaii.

There was plenty of gold to be had in rivers and streams, particularly in the early days. But much of it went to larger operations that utilized high-volume hydraulic recovery techniques. The average miner sifting with a simple pan or other crude device was lucky to break even and recoup expenses. Thousands went home disillusioned and broke.

But while the great gold rush was a bust for many, the huge population influx was a boon for gaming houses, saloons and brothels. Several entrepreneurs made a fortune, among them a peddler of denim pants named Levi Strauss.

In fact, the first millionaire to emerge from all of this was an enterprising retailer named Sam Brannan. Brannan famously cornered the market and bought nearly all of the available supplies of picks, shovels and pans. Then to drum up business, he ran through the streets showing everyone the newfound gold dust.

Brannan was clever. He knew that some would find gold and others wouldn't -- but they would all need tools. And he was happy to supply them, at a substantial mark-up, of course. At the peak, Brannan was reportedly raking in $5,000 a day in sales, which would be more than $140,000 today.

What does any of this have to do with income investing? Plenty...

As the chief strategist behind StreetAuthority's Energy & Income advisory, I think the easiest way to explain this is using the energy field as an example.

From small independent explorers to integrated global giants, companies that find and produce oil and gas can make a ton of money for their shareholders.

Many of these companies pay out steady dividends. For example, ExxonMobil (NYSE: XOM) has raised dividends nearly 6% annually for the past three decades.

But these companies are also exposed to fluctuating commodity markets. And as we all know, energy prices can be notoriously volatile. In the case of Exxon, shares are still well below their highs from before the recession on the heels of lower energy prices.

By contrast, companies that provide necessary equipment and services to these exploration companies aren't in the business of selling oil and gas. As such, they don't feel those day-to-day price swings directly. As long as prices are strong enough to support continued exploration and development activity, they stay happy.

It's the same situation that the "pick-and-shovel" companies during the Gold Rush were able to use to their advantage.

In the income and energy field, there are a number of these types of companies... and many pay high yields.

Perhaps the best known group is master limited partnerships (MLPs). These aren't your traditional equipment and service companies that make pumps or drill bits... but they are every bit as important.

Without MLPs, the energy pumped out of the ground by energy companies would be useless. That's because these companies own the pipeline and storage assets -- so called "midstream" assets -- that help get energy from the field to the end user.

MLPs typically aren't concerned with energy prices. They get paid for the volume shipped through their pipelines and storage terminals. They usually earn the same amount whether a barrel of oil is $150 or $50.

Of course, when you make money from simply transporting commodities (which are in constant demand) and don't have to worry about swings in their prices, you'd expect to see steady cash flow. This is the case with many MLPs, which pass along the bulk of this money to their investors in the form of steady yields. Most MLPs have yields averaging 5-6%, and it's not uncommon for some MLPs yield in the double-digits.

This same principal can be applied across the entire income universe. There are plenty of yields that come from companies doing the "exploring" -- whether it be actual exploration for energy, delivering the next breakthrough drug, or building a new airplane.

Action to Take--> So if you want to invest in the most stable businesses, then look to the companies that will make money supplying the "picks, shovels and pans"... even if other companies don't strike gold.

[Note: For more about the income opportunities in the energy field, don't miss my recent presentation about energy royalty trusts. This field is small -- only about two dozen trade on the market. But we've found one trust yielding up to 17.1%. For more information -- including names and ticker symbols -- visit this link.]

-- Nathan Slaughter

Nathan Slaughter does not personally hold positions in any securities mentioned in this article.
StreetAuthority LLC does not hold positions in any securities mentioned in this article.
This article originally appeared at www.streetauthority.com.