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In previous posts, I tried to create dividend stock portfolios that can outperform the market by a big margin. I created screening methods that show such promise, but the demand was to rebalance the portfolio every four weeks and replace the stocks that no longer comply with the screening requirement with other stocks that comply with the requirement. Since most investors do not have the opportunity to rebalance the portfolio every four weeks, I created a new screening method that requires rebalancing the portfolio just once a year. Furthermore, in order to decrease the maximum expected drawdown to a lower level than that of the benchmarks I had to be satisfied with a bit lower return, but still much better than the benchmarks.

The screen's method that I use to build this portfolio requires all stocks to comply with all following demands:

  1. The stock is included in the Russell 3000 index.
  2. The stock does not trade over-the-counter (OTC).
  3. Market cap is greater than $100 million.
  4. Price is greater than 1.00.
  5. Dividend yield is greater than 2.0%.
  6. The payout ratio is less than 50%.
  7. The annual rate of dividend growth over the past five years is greater than 5%.
  8. Total debt to equity is less than 0.40.
  9. Average annual earnings growth estimates for the next five years is greater than 5%.
  10. The twenty stocks with the lowest payout ratio among all the stocks that complied with the first nine demands.

I used the Portfolio123's powerful screener to perform the search and to run back-tests. Nonetheless, the screening method should only serve as a basis for further research. All the data for this article were taken from Portfolio123.

After running this screen on September 11, 2013, before the market open, I discovered the following 20 stocks:

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The table below presents the dividend yield, the payout ratio, the annual rate of dividend growth over the past five years, and the PEG ratio for the 20 companies.

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CNA Financial Corporation (NYSE:CNA)

CNA Financial Corporation, through its subsidiaries, provides a range of property and casualty insurance products and services to small, middle market, and large businesses and organizations in the United States and internationally.

CNA Financial Corporation has a very low debt (total debt to equity is only 0.22) and it has a trailing P/E of 15.12 and a very low forward P/E of 11.48. The price to free cash flow for the trailing 12 months is very low at 9.66, and the average annual earnings growth estimates for the next five years is quite high at 14%. The PEG ratio is at 1.08, and the price-to-book-value is very low at 0.83. The forward annual dividend yield is at 2.19%, and the payout ratio is only 28.8%. The annual rate of dividend growth over the past five years was quite high at 11.38%.

The CNA stock price is 2.62% above its 20-day simple moving average, 5.48% above its 50-day simple moving average and 14.58% above its 200-day simple moving average. That indicates a short-term, mid-term and long-term uptrend.

CNA Financial Corporation has recorded revenue and EPS growth, during the last three years, as shown in the table below.

Source: Portfolio123

On July 29, CNA Financial Corporation reported its second-quarter financial results. EPS came in at $0.75 a $0.10 better than expectations.

Second Quarter Highlights

  • Operating and net income of $204 million and $194 million, respectively
  • 7% growth in P&C net written premiums from Q2 2012
  • 97.6% P&C combined ratio ex catastrophes and development 2 points of underlying loss ratio improvement year-to-date from FY 2012
  • Book value per share ex AOCI of $43.81, up 3% from year-end 2012
  • 6.9% Operating return on equity
  • S&P upgraded CNA's financial strength rating to 'A' and credit rating to 'BBB'
  • Quarterly dividend of $0.20 per share

CNA Financial Corporation has compelling valuation metrics, strong earnings growth prospects, and the stock is trading way below book value. In my opinion, CNA stock still has room to go up. Furthermore, the growing dividend represents a nice income.

Risks to the expected capital gain and to the dividend payment include a downturn in the U.S. economy, and large increase in claim volume.

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Chart: finviz.com

Ensco plc (NYSE:ESV)

Ensco plc provides offshore contract drilling services to the oil and gas industry worldwide.

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Source: company presentation [pdf]

Ensco has a low debt (total debt to equity is only 0.39), and it has a very low trailing P/E of 10.39 and a very low forward P/E of 7.65. The PEG ratio is very low at 0.62, and the average annual earnings growth estimates for the next five years is very high at 16.80%. The forward annual dividend yield is quite high at 3.31%, and the payout ratio is only 31.8%. The annual rate of dividend growth over the past five years was very high at 71.88%.

On July 29, Ensco reported its second-quarter results, which beat EPS expectations by $0.06 and beat on revenues. In the report, Chairman, President and Chief Executive Officer Dan Rabun stated:

We continue to see strong, broad-based customer demand given the steady pace of new discoveries that must be appraised and developed. Based on our positive outlook, we recently ordered our eighth Samsung DP3 drillship, ENSCO DS-10, and our seventh Keppel FELS B Class jackup, ENSCO 110. These new assets reinforce our fleet standardization strategy that provides customers consistently high levels of operational excellence.

Ensco has recorded strong revenue and dividend growth during the last year, the last three years and the last five years, as shown in the table below.

Source: Portfolio123

Ensco achieved better net income margin than its competitors, as shown in the chart below.

(click to enlarge)

Source: company presentation

Ensco has recorded strong revenue and dividend growth, and considering its cheap valuation metrics and its strong earnings growth prospects, ESV stock can move higher. Furthermore, the rich dividend represents a nice income.

Risks to the expected capital gain and to the dividend payment include a downturn in the U.S. economy, and decline in the price of oil and natural gas.

(click to enlarge)

Chart: finviz.com

The Mosaic Company (NYSE:MOS)

The Mosaic Company produces and markets concentrated phosphate and potash crop nutrients for the agriculture industry worldwide.

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Source: company presentation [pdf]

The Mosaic Company has a very low debt (total debt to equity is only 0.08), and it has a very low trailing P/E of 10.30 and a very low forward P/E of 13.01. The PEG ratio is at 1.29, and the average annual earnings growth estimates for the next five years is at 8%. The forward annual dividend yield is at 2.26%, and the payout ratio is only 22.6%. The annual rate of dividend growth over the past five years was very high at 49.53%.

The Mosaic Company has recorded strong revenue, EPS and dividend growth during the last three years, as shown in the table below.

Source: Portfolio123

The fact that world grain and oilseed stocks are declining will boost demand for Mosaic's nutrients.

(click to enlarge)

Source: company presentation

The Mosaic Company has recorded good revenue, EPS and dividend growth, and considering its compelling valuation metrics and its good earnings growth prospects, MOS stock can move higher. Furthermore, the solid dividend represents a nice income.

Since the company is rich in cash ($8.68 a share) and has a very low debt and its payout ratio is very low, there is hardly a risk that the company will reduce its dividend payment.

Risks to the expected capital gain and to the dividend payment include a downturn in the world economy, and decline in the price of phosphate and potash.

(click to enlarge)

Chart: finviz.com

Back-testing

In order to find out how such a screening formula would have performed during the last year, last five years and last 14 years, I ran the back-tests, which are available by the Portfolio123's screener.

The back-test takes into account running the screen once a year and replacing the stocks that no longer comply with the screening requirement with other stocks that comply with the requirement. The theoretical return is calculated in comparison to the benchmarks (S&P 500, Russell 3000), considering 0.25% slippage for each trade and 1.5% annual carry cost (broker cost). The back-tests results are shown in the charts and the tables below.

Since some readers could not get the same results that I got in some of my previous posts, I am giving, in the charts below, the Portfolio123 exact codes, which I used for building this screen and the back-tests. The number of stocks left after each demand can also be seen in the chart.

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One-year back-test

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Five-year back-test

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14-year back-test

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Summary

The long-term dividend screen has given much better returns during the last year, the last five years and the last 14 years than the S&P 500 and the Russell 3000 benchmarks. The Sharpe ratio, which measures the ratio of reward to risk, was also much better in all three tests. Furthermore, the maximum drawdown, which normally is much bigger in a small portfolio than in the benchmarks, was much smaller in all three tests.

One-year return of the screen was high at 32.69%, while the return of the S&P 500 index during the same period was at 16.63% and that of the Russell 3000 index was at 18.31%.

The difference between the long-term dividend screen to the benchmarks was even more noticeable in the 14 year back-test. The 14-year average annual return of the screen was at 12.67%, while the average annual return of the S&P 500 index during the same period was only 2.12% and that of the Russell 3000 index was at 2.84%. The maximum drawdown of the screen was only 39.96%, while that of the S&P 500 was at 56.39% and the maximum drawdown of the Russell 3000 index was at 57.07%.

Although this screening system has given superior results, I recommend readers use this list of stocks as a basis for further research.

Source: Long-Term Dividend Portfolio With Low Risk That Has Outperformed The Market