5 Dividend Stocks that Beat Money Market Accounts and CDs

When people learn that I am an income investor it is not uncommon for them to ask why I invest in stocks instead of high yield money market accounts [MMA] or certificates of deposits [CD]. I generally start with my short answer of, “Dividend stocks have a secret ingredient that makes them a much more desirable investment.”

Needless to say this usually piques their interest and normally the response is something like, “Secret ingredient? What secret ingredient?” Then I explain.

Dividend Stocks Hidden Power

To the casual observer, a CD may be earning a similar rate as the dividend stock and it is federally insured, thus protecting the purchaser from loss. So it must be better, right?

What separates good dividend stocks from MMAs and CDs is a hidden power not readily recognizable to the uninitiated – dividend growth. While a CD will pay a market interest rate for its term, its only growth is movement in the market rate at renewal, which can go either up or down. Contrast that with a good dividend stock with decades of consecutive annual dividend increases.

Dividend Stocks Yield On Cost

One way to compare the earning power of two investments or an investment and a CD is to look at their Yield On Cost [YOC] over time. YOC is a simple concept where you divide annual earnings over the investment’s cost. Consider this simple example of a stock with a 2.75% yield and a dividend growth rate of 7%, compared a 5-year CD paying 3.00%, where earnings in both are withdrawn when paid:

	Div. Stock	CD
Investment $	10,000	10,000
Initial Yield	2.75%	3.00%
Div. Growth	7.0%	0.0%
Earnings Yr. 1	275	300
YOC Yr. 1	2.8%	3.0%
Earnings Yr. 2	294	300
YOC Yr. 2	2.9%	3.0%
Earnings Yr. 3	315	300
YOC Yr. 3	3.1%	3.0%
Earnings Yr. 4	337	300
YOC Yr. 4	3.4%	3.0%
Earnings Yr. 5	360	300
YOC Yr. 5	3.6%	3.0%
Earnings Total	1,581	1,500
YOC Final	3.6%	3.0%

Though the dividend stock started with a lower yield of 2.75%, its final YOC after 5 years was 3.6% compared to the constant 3.0% of the CD. The key here is to find dividend stocks that are growing their dividends and will continue to do so. Since these numbers are contrived, the obvious question is how does this translate to the real world?

Dividend Stocks The Last 10 Years

Below are some bellwether dividend growth stocks and their performance over the last 10 years, assuming $10,000 was spent to buy shares at the stocks 1998 high:

Procter & Gamble Co. (PG) – Analysis
1998 Dividend per Share: $0.51
1998 High Share Price: $47.41
1998 Yield on High Price: 1.1%
1998 Shares Purchased: 210 (cost: $9,956)
2008 Dividend per Share: $1.45
2008 Yield On Cost: 3.1%
Current Yield: 3.1%

Johnson & Johnson (JNJ) – Analysis
1998 Dividend per Share: $0.49
1998 High Share Price: $44.88
1998 Yield on High Price: 1.1%
1998 Shares Purchased: 222 (cost: $9,963)
2008 Dividend per Share: $1.80
2008 Yield On Cost: 4.0%
Current Yield: 3.22%

3M Co. (MMM) – Analysis
1998 Dividend per Share: $1.10
1998 High Share Price: $48.94
1998 Yield on High Price: 2.2%
1998 Shares Purchased: 204 (cost: $9,984)
2008 Dividend per Share: $2.00
2008 Yield On Cost: 4.1%
Current Yield: 2.80%

McDonald’s Corp. (MCD) – Analysis
1998 Dividend per Share: $0.18
1998 High Share Price: $39.75
1998 Yield on High Price: 0.5%
1998 Shares Purchased: 251 (cost: $9,977)
2008 Dividend per Share: $1.63
2008 Yield On Cost: 4.1%
Current Yield: 3.62%

Sysco Corp. (SYY) – Analysis
1998 Dividend per Share: $0.16
1998 High Share Price: $14.34
1998 Yield on High Price: 1.1%
1998 Shares Purchased: 697 (cost: $9,995)
2008 Dividend per Share: $0.82
2008 Yield On Cost: 5.7%
Current Yield: 3.70%

The above data also demonstrates another important concept – your starting point is very important. Ten years ago the stock market was higher in relative terms than now, thus the yields for most companies were lower than now. After 10 years of growth, the YOC is not much higher than the stocks' current yield. However, similar growth over the next 10 years will produce a dramatically higher YOC.

Full Disclosure: Long PG, JNJ, MMM, MCD, SYY. See a list of all my income holdings here.

Comments

[SivBum:]

Good list...how about telco like AT&T and VZ? Both are at 6% range.

Aug 13 11:17 AM

[Stocklvr:]

Loved the article. It got me thinking so I popped it into a spreadsheet. The only problem I have is that to come up with the earnings number, you always use the initial $10,000. Why wouldn't you add the dividend to that and recalculate?

In other words, the second years earnings would be 10,000 * .029425 (which is a 7% increase to the original .0275 rate). The second years earnings are really $302 if you take into consideration the income you obtained in the first year.

I realize that you were trying to convey YOC and again, I loved the article so perhaps you can clarify why I might be right or wrong?

Thanks. Every dividend investor should know this.

Aug 13 07:09 PM

[goobler:]

The point is to show the long-term return on his original investment, assuming you take out the income & spend it, rather than reinvesting it.


On Aug 13 07:09 PM Stocklvr wrote:

> Loved the article. It got me thinking so I popped it into a spreadsheet.
> The only problem I have is that to come up with the earnings number,
> you always use the initial $10,000. Why wouldn't you add the dividend
> to that and recalculate?
>
> In other words, the second years earnings would be 10,000 * .029425
> (which is a 7% increase to the original .0275 rate). The second years
> earnings are really $302 if you take into consideration the income
> you obtained in the first year.
>
> I realize that you were trying to convey YOC and again, I loved the
> article so perhaps you can clarify why I might be right or wrong?
>
>
> Thanks. Every dividend investor should know this.

Aug 14 09:47 AM

[mbkelly75:]

Well written - TY!
Cost-Basis is something I keep track of on every stock I own and re-investing the dividends in the stock that paid them has a huge effect over time. My stock account re-invests the dividends for free so it really helps me. I check to see if my portfolio is out of balance every two weeks so that is not a problem for me.
A zero cost-basis is the Holy Grail for me and I have much of my portfolio at that point now.

Aug 14 11:42 AM

[J. B. Wulff:]

If these stocks were enrolled in a Dividend Reinvestment Plan, there would be compounded growth and a much greater overall yield. DRP's remain a superb method for growing your portfolio painlessly.

Aug 14 04:14 PM

[cilka:]

thank you all for your very informative comments.....I only wish I had known about the dividend reinvestment method & benefits when I first started "taking the plunge" into the stock market.....what a greenhorn!!!
anyway, its never to late to learn & I start today!

Aug 14 10:44 PM

[You're Kidding:]

I am surprised you do not mention MLPs (Master Limited Partnerships.)

MLPs are far superior for long term, income seeking investors than the stocks you mention. (See info below in a previous post of mine for more.)

The Wachovia MLP Primer (Third edition, July 14, 2008) may be the best detailed discussion of MLPs around. I would recommend anyone seriously interested in investing in what is probably the best investment the market has to offer, to read and study it.

After spending 9 months full time investigating the market and the related meltdown, I put 100% of a mid 6 figure inheritance into 7 MLPs: ETE, NRGP, EPE, NSH, BGH, LINE, and CPNO (that's right, 100%.) 60% of that went into the General Partners of investment grade, midstream pipeline and storage MLPs (including the one propane MLP,) which all increase their distributions much faster than their underlying MLPs.) I sleep easily at night knowing all my money is in extremely safe enterprises that are not going to go out of business in the foreseeable future, and will continue not only generating high distributions (10.4% on my initial portfolio purchase price) but will continue INCREASING those distributions over time as they have been doing for years, (especially once the recession is behind us.)

And please don't scream "Diversification!" to me. Diversification did how good of a job protecting equities in the last couple of years? That's right, ABSOLUTELY NO GOOD. In fact, it guaranteed disaster.

Wall Street is full of wonderful suggestions that are meant to make Wall Street lots of money, not protect investors. You pay attention to the likes of analyst's "recommendations" and "insights" at your own peril.

You must do your own due diligence and listen to nobody (including me) whose advice you cannot confirm for yourself. So, prove to yourself that the following investment advice is the best you will ever receive:

1) Think LONG TERM. How many more years will you be alive? I'm 63 and I could be alive another 25 or 30 years. Just about EVERYONE should think long term. Remember the race between the tortoise and the hare? Who won?

2) Think DIVIDENDS and DISTRIBUTIONS. Academic studies have shown div /dist stock investing has always beat non div/dist stock investing.

3) REINVEST (compound the interest) as much of the income stream as possible (ALL if you can) right back into your portfolio.

4) Think MLPs. The incredible tax advantages, the high dividends, the solid businesses, are irresistible and REAL.

5) Pay less attention to capital gains and more to divs/dist. This will set up a "cash flow engine" that will far outpace mere capital gains in the long run. Keep in mind that a portfolio which pays a 10% yearly div/dist, with div/dist and stock/units also rising 10% yearly, generates a cash flow engine that doubles the value of a portfolio about every 4 years! (not counting taxes or inflation - use this example for comparison purposes with other investments.)

These five points will make you rich if you do your DD and they will put a big smile on your face. Your future will be assured.

To get started learning about compound interest with a visceral feel, go here to see a color, graphical, real time (with sliders - no need to enter numbers) compound interest calculator, which will allow you to play with various scenarios like distribution rates, inflation, taxes etc.

personal.fidelity.com/...

Aug 14 10:58 PM

[mbkelly75:]

Your notes on MLPs are well written and make an outstanding case for MLP investment and I use MLPs in my portfolios for the reasons you have outlined so well. Your link to Fidelities "Investment Growth Calculator" is excellent and I offer to you for more thought on this - Dividend Growth Investor's 10 by 10 Chart at this link:
www.dividendgrowthinve...
Here is a direct link to Wachovia's MLP Primer: www.naptp.org/document...
Here is a direct link to Alerian's MLP Primer: www.alerian.com/MLPpri...
Here is a direct link to Merrill Lynch's MLP Primer: www.naptp.org/News/Wee...
There is nothing wrong with your diversification - Kurt Wolff right here in SA last 23 April 2009 wrote an outstanding article on his Presentation in Calgary about making money in energy stocks. He made a case for diversifing within the energy sector in 12 stocks around the world. I know from experience that you can be well diversified with as little as 5 stocks.
One thng you might keep in mind is that even the Primers say that MLPs should be a PART of every portfolio because they tend to move opposite the Stock and Bond Markets, BUT you should likely have some Gold and Bonds just to provide some balance for the MLPs. Your choices for your MLP investments are great choices - I own some of them mself and will look at the others. I use CEF to represent a balanced portion of both Gold and Silver Bullion in my portfolio and use Bond ETFs for that portion. You might want to take a look at adding some dividend-paying stocks to your portfolio that have been paying RISING dividends for a minimum of 5 years as they are, by far and away, the best way to add dividend stocks to your portfolio as I and others have written extensively about right here in SA. Once again, though, thank you for your 5 points on investment - they are clearly written and easily understood - VERY well done.
On Aug 14 10:58 PM You're Kidding wrote:

> I am surprised you do not mention MLPs (Master Limited Partnerships.)
>
>
> MLPs are far superior for long term, income seeking investors than
> the stocks you mention. (See info below in a previous post of mine
> for more.)
>
> The Wachovia MLP Primer (Third edition, July 14, 2008) may be the
> best detailed discussion of MLPs around. I would recommend anyone
> seriously interested in investing in what is probably the best investment
> the market has to offer, to read and study it.
>
> After spending 9 months full time investigating the market and the
> related meltdown, I put 100% of a mid 6 figure inheritance into 7
> MLPs: ETE, NRGP, EPE, NSH, BGH, LINE, and CPNO (that's right, 100%.)
> 60% of that went into the General Partners of investment grade, midstream
> pipeline and storage MLPs (including the one propane MLP,) which
> all increase their distributions much faster than their underlying
> MLPs.) I sleep easily at night knowing all my money is in extremely
> safe enterprises that are not going to go out of business in the
> foreseeable future, and will continue not only generating high distributions
> (10.4% on my initial portfolio purchase price) but will continue
> INCREASING those distributions over time as they have been doing
> for years, (especially once the recession is behind us.)
>
> And please don't scream "Diversification!" to me. Diversification
> did how good of a job protecting equities in the last couple of years?
> That's right, ABSOLUTELY NO GOOD. In fact, it guaranteed disaster.
>
>
> Wall Street is full of wonderful suggestions that are meant to make
> Wall Street lots of money, not protect investors. You pay attention
> to the likes of analyst's "recommendations" and "insights" at your
> own peril.
>
> You must do your own due diligence and listen to nobody (including
> me) whose advice you cannot confirm for yourself. So, prove to yourself
> that the following investment advice is the best you will ever receive:
>
>
> 1) Think LONG TERM. How many more years will you be alive? I'm 63
> and I could be alive another 25 or 30 years. Just about EVERYONE
> should think long term. Remember the race between the tortoise and
> the hare? Who won?
>
> 2) Think DIVIDENDS and DISTRIBUTIONS. Academic studies have shown
> div /dist stock investing has always beat non div/dist stock investing.
>
>
> 3) REINVEST (compound the interest) as much of the income stream
> as possible (ALL if you can) right back into your portfolio.
>
> 4) Think MLPs. The incredible tax advantages, the high dividends,
> the solid businesses, are irresistible and REAL.
>
> 5) Pay less attention to capital gains and more to divs/dist. This
> will set up a "cash flow engine" that will far outpace mere capital
> gains in the long run. Keep in mind that a portfolio which pays a
> 10% yearly div/dist, with div/dist and stock/units also rising 10%
> yearly, generates a cash flow engine that doubles the value of a
> portfolio about every 4 years! (not counting taxes or inflation -
> use this example for comparison purposes with other investments.)
>
>
> These five points will make you rich if you do your DD and they will
> put a big smile on your face. Your future will be assured.
>
> To get started learning about compound interest with a visceral feel,
> go here to see a color, graphical, real time (with sliders - no need
> to enter numbers) compound interest calculator, which will allow
> you to play with various scenarios like distribution rates, inflation,
> taxes etc.
>
> personal.fidelity.com/...

Aug 16 11:37 AM