I often get asked if investing exclusively in dividend-paying
companies will bring the best results. There is no simple answer,
but history shows that dividend income is an important part of
your total return when investing in common stocks. Increasing
stock prices help to build your wealth and beat inflation, but
dividends provide a steady return on your investment through
thick and thin.
I also receive questions from investors asking me to compile a
list of stocks to begin building their initial portfolios.
Whether you are a new investor or an old pro, or whether you are
young or old, I usually advise that you include some
ultra-conservative companies in your portfolio. I call them core
holdings. Owning conservative companies will not only allow you
to sleep at night, but will also provide you with modest
appreciation and dividend income for many years into the future.
When asked how long an investor should hold a stock, Warren
Buffett's answer is: "Our favorite holding period is forever."
Dividend paying stocks offer two ways to make money with your
stocks: The price of the stock can appreciate and the dividend
can provide income. Invest in companies with histories of
well-founded growth that will continue during the next several
years and even decades. A company's history of steady sales and
earnings growth will usually lead to relatively steady
appreciation and frequent dividend increases.
Dividends are the regular cash payments that a company sends to
you or to your brokerage account. You can, however, instruct the
company or your broker to reinvest your dividends into additional
shares or fractional shares. Reinvesting your dividends makes
sense, because the effects of compounding your dividends will
make your investment grow faster.
Many investors focus exclusively on speculative gains (the
appreciation), going so far as ignoring dividend payments when
reporting stock market results over long periods of time. You
might be pleasantly surprised, though, if you include your
dividends when you calculate your total return. You will also see
that dividend-paying stocks tend to decline noticeably less than
stocks with no dividends.
Dividends are hard-earned cash, and a company's ability to
continually pay them provides concrete evidence that the company
is performing well. Accounting malfeasance is harder, or
impossible, if a large transfer of cash is going to shareholders
on a regular basis. Don't include companies paying really low
dividends, because I am referring to companies paying dividends
yielding more than 1% per year (calculated by dividing the annual
dividend by the current stock price).
There is another common pitfall to be aware of when evaluating
dividends and yields. The dividend payout is the ratio of
dividends per share compared to earnings per share (DPS divided
by EPS). The payout ratio indicates if earnings can support the
dividend. A growth company that pays a small dividend will tend
to have a lower dividend payout ratio than a well-established
"blue chip" company that has a higher dividend payout.
As a rule of thumb, most successful dividend investors avoid
companies with a dividend payout ratio above 50% or 60%. Anything
above that mark means the company may not be investing enough
capital back into the organization. Even though a company's
growth has slowed, it is still critical to reinvest a portion of
earnings back into the organization.
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10 High-Yield Winners for 2011
Did you know that dividend stocks have out-performed non-dividend
stocks by four to one over the past 35 years?
That's because dividends usually increase each year. In fact,
more than 137 years of data point to the inescapable conclusion
that owning dividend-paying stocks-and then re-investing those
dividends-beats other investment approaches hands down.
And for a limited time, if you
subscribe to Dick Davis Dividend Digest
, you'll receive our top high-yield picks for 2011!
My top 10 "super" companies listed below offer dividends, which
on average, exceed the current 10-year U.S. Treasury bond rate of
2.5%. In addition to generous dividend payments, investors can
expect steady long-term earnings and dividend growth of about 10%
per year. All of the companies maintain strong balance sheets
with low debt and lots of cash. Annual dividend increases are
common for all of the companies and have averaged 15% annual
increases during the past 10 years.
We expect the size of dividend increases to diminish somewhat
during future years. The average dividend payout ratio for our 10
companies is 36%, which is well below our 50% to 60% limit. And
best of all, high-quality companies have been neglected by
investors during the past several years and now sell at very
In my opinion, the following companies should be included in your
Abbott Laboratories (
produces a wide range of drugs, diagnostic products, medical
testing products, test analysis and nutritional products. Sales
and earnings growth have been aided by expanding international
sales and by recent acquisitions. Sales, earnings and dividends
increased 8% to 10% during the past 10 years. We believe future
growth will be the same or slightly better based upon rising
international sales, additional sales to the ageing population of
America and new acquisitions. ABT shares are undervalued at 12.1
times current EPS. Dividends have been paid since 1926 and
currently provide a yield of 3.3%.
is the world's largest supplemental insurance provider. The
company derives 75% of its business from Japan, where it also
sells life and health insurance. Sales have increased 10% to 12%
per year during the past 10 years, and dividends have increased
an impressive 22% per year. We forecast sales growth of 10% and
earnings and dividend growth of 12 to 15% during the next five
years. New products and an improving economy in Japan should
produce considerable excess cash. AFL shares are undervalued at
9.6 times forward 12-month EPS. Dividends have been paid since
1973 and currently provide a yield of 2.2%.
, a leading consumer products company, continues to benefit from
a very successful restructuring program. Leading products include
Ajax, Fab and Murphy cleaners, Colgate toothpaste, Irish Spring
soap, Mennen shave cream and Hill's pet food. Sales and earnings
increased 7% to 9% per year during the past 10 years, while
dividends were boosted 12% per year. Further success in Latin
America, new products and new acquisitions will keep earnings and
dividends moving forward at a 10% pace during the next five
years. CL shares are reasonably priced at 14.6 times forward EPS.
Dividends have been paid since 1895 and currently provide a yield
General Dynamics (
makes electronics for land, sea and air weapons systems. GD
manufactures cargo ships and Gulfstream business jets. It also
makes armored combat vehicles, submarines and destroyers. The
company sells primarily to the U.S. Department of Defense
including the U.S. Army and Navy. General Dynamic's sales,
earnings and dividends increased 10% to 12% per year during the
past 10 years. We expect sales and earnings to increase at an 8%
clip during the next five years, but the company will likely
increase dividends by 12% per year. Sales to the military will
probably slow, but sales generated from General Dynamic's other
units, including Gulfstream, will likely pick up steam. GD shares
are undervalued at 8.9 times 12-month forward EPS. Dividends have
been paid since 1979 and currently provide a yield of 2.7%.
International Business Machines (
is the world's largest information technology company. IBM is
taking advantage of increasing demand for software services from
overseas corporations, which make up 65% of total sales.
Revenues, earnings and dividends increased 5%, 10% and 15%
respectively during the past 10 years. We expect IBM to increase
EPS and dividends by 11% to 12% during the next five years. The
company is poised to take advantage of the anticipated up-cycle
in technology. IBM shares are reasonably priced at 11.6 times
forward EPS. Dividends have been paid since 1916 and currently
provide a yield of 1.9%.
Johnson & Johnson (
is the world's largest and most diversified health care company.
The company produces a large variety of drugs, medical and
diagnostic equipment, and consumer products. After experiencing
slower growth during the past couple of years, Johnson &
Johnson is now focused on faster growing health care segments and
on divesting underperforming divisions. Sales and earnings growth
of 8% to 9% per year during the past 10 years was accompanied by
14% dividend growth. Acquisitions and new product introductions
will help sales and earnings grow by 6% to 7% during the next
five years. Dividends will probably increase 8% per year. JNJ
shares are reasonably priced at 12.6 times forward EPS. Dividends
have been paid since 1944 and currently provide a yield of 3.5%.
operates 32,000 fast-food restaurants in 118 countries and
generates $23 billion in sales. Sales in Europe have been
surprisingly strong, while sales in the U.S. are not nearly as
weak as other restaurants because Americans are eating at less
expensive restaurants, such as McDonald's, to save money. Sales
and earnings increased 8% to 10% per year during the past 10
years, and dividends jumped 25% per year. We forecast sales,
earnings, and dividend growth of 9% to 10% per year during the
next five years. MCD's ability to innovate ahead of competitors
should keep growth intact. MCD shares are reasonably priced at
15.6 times forward 12-month EPS. Dividends have been paid since
1976 and currently provide a yield of 3.2%.
is a global leader in the soft drink and snack food industries.
The company is expanding in international markets and focusing on
health and wellness beverages and foods. Annual revenues,
earnings and dividends increased 8%, 10% and 12% respectively
during the past 10 years. We expect Pepsi to increase sales,
earnings, and dividends by 10% to 12% during the next five years.
New products and further expansion into emerging markets will
spur future business. The stock is reasonably priced at 15.0
times next 12-month EPS. Dividends have been paid since 1952 and
currently provide a yield of 2.9%.
, a leading drug store retailer, is adding worksite and homecare
facilities to its pharmacy business. The company has also become
more active in acquiring small competitors. New management is
renovating existing stores and cutting operating costs. Sales,
earnings, and dividends increased 11% to 12% per year during the
past 10 years. We foresee sales, earnings and dividend growth of
8%, 12% and 15% during the next five years. New acquisitions and
the expected rapid growth of the drug store industry will spark
strong results. WAG shares are reasonably priced at 14.5 times
forward 12-month EPS. Dividends have been paid since 1933 and
currently provide a yield of 2.1%.
Wal-Mart Stores (
is the world's largest retailer with 8,500 stores, two million
employees, and $400 billion total sales. Groceries now account
for 51% of sales. Shoppers seeking low retail prices and one-stop
shopping are boosting Wal-Mart's sales. Sales and earnings
increased 10% while dividends jumped 20% per year during the past
10 years. We expect sales and earnings to increase 10% per year
and dividends to advance 12% per year during the next five years.
WMT shares are undervalued at 12.5 times forward EPS. Dividends
have been paid since 1973 and currently provide a yield of 2.2%.
I will continue to follow my top 10 "super" companies, and other
blue-chip, high-quality companies in my Cabot Benjamin Graham
Value Letter. My next issue, coming soon, will focus on
undervalued stocks with low price-to-book-value ratios. I hope
you won't miss it!
J. Royden Ward
For Cabot Wealth Advisory
Editor's Note: You can find additional dividend-paying stocks
selling at bargain prices in the Cabot Benjamin Graham Value
Letter. In every issue, you'll find my legendary Maximum Buy and
Minimum Sell Prices for over 250 stocks.
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