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With short-term interest rates still sitting well below 1%, and the prospects for economic growth in the U.S. bleak, there has been more focus on high-dividend paying stocks.

This certainly makes sense in this environment. Stocks of companies that have a history of increasing dividends, even in tough economic times, should be in demand right now. Nobody wants to go through another decade of near 0% returns like the S&P 500 just had. One way to prepare for another decade of slow economic growth is to invest in high-dividend yield stocks that have shown they can weather tough economic times and even increase their dividends during such times.

Many investors don’t think much about the contribution of dividends to their total returns. They’re used to looking at the price of stocks they own, rejoicing when the price goes up and cursing when the price goes down. But a more practical and less stressful way to invest is to think long-term when it comes to steadily increasing dividend payments through time.

As an example, let’s look at Johnson & Johnson (NYSE:JNJ), one of my favorite high-dividend yield stocks that has a solid history of increasing dividends every year. Johnson & Johnson currently has a dividend yield of 3.4% and a five-year dividend growth rate of 12%. If we apply this yield and growth rate over 10 years, reinvest dividends, and assume the price of the stock does not change, we get the following:

Inputs:

Investment

Dividend Yield

Growth of Dividend (Annual)

10,000

3.40%

12%

Outputs:

Total Return

Annual Return

FV Dividends

FV Investment

72%

5.56%

7,181

10,000

An annual return of over 5.5% when the stock price hasn’t moved is quite impressive. But that is exactly what happens with dividend-paying stocks that have high dividend growth rates every year.

I also included the future value of the dividend income stream, compared to the future value of the initial investment. The dividends accumulated to more than $7,181 over the 10-year period. Looked at another way, the price of this stock could fall by 72% during this period and the investor would still break even.

Now let’s take a look at what happens over 20 years:

Total Return

Annual Return

FV Dividends

FV Investment

383%

8.20%

38,342

10,000

The annual return jumps to more than 8% even with no growth in the stock price. Again, the key here is the growing dividend payments over time. Also notice that the total dollar value of the dividend payments is nearly four times the value of the initial investment. That is the beauty of high dividend paying stocks over time: The initial investment becomes less and less important. Said another way, investors can rest a little easier as volatility in the market increases, because over a long enough time horizon they don’t care nearly as much about the stock price as they do about their dividend payments. This is a strong psychological benefit to high-dividend paying stocks, especially since so many investors are still shell-shocked from the market crash in 2008.

Now, it’s perfectly reasonable to suggest that there is no way Johnson & Johnson can continue its 12% growth rate in dividends over 20 years. So let’s take a look at what happens with a more conservative 6% growth rate:

Total Return

Annual Return

FV Dividends

FV Investment

186%

5.40%

18,619

10,000

We still see an annual return of 5.4% even with no change in the price of the stock. Also, the total stream of dividend income still swamps the initial $10,000 investment.

This type of analysis is especially important as we enter this decade with serious headwinds for economic growth. Some are predicting that the U.S. will follow the path of Japan’s economy and stock market and simply muddle along for the next 10 years. This is certainly possible. If this type of environment does come to pass, it will be very important to have a core portfolio of stocks that pay reasonably high dividends and have a history of growing dividends over time.

Source: Johnson & Johnson and the Contributions of Dividends to Total Return