Looking for the Perfect Dividend Stock

In a utopian world, the perfect dividend stock would be one that is both high-yield and provide a high dividend growth rate. Its share price would appreciate ratable with its increasing dividend. All of this would be driven by increasing earnings and cash flow. OK, so much for my fantasies, the perfect dividend stock just may be a balanced compromise. Consider the following:

High Yield/Low Dividend Growth: When investors first consider dividend investing, High Yield is where they usually go first. I guess it is human nature to want it now and want a lot of it. Unfortunately, high yield stocks often carry higher than average risk - there is usually a reason that the stock yield is higher than average. It could be because the company is in a limited growth industry, is in a volatile industry, experienced recent financial problems and its share price has fallen, or shareholders perceive future financial problems. I have set aside a small portion of my portfolio to invest in these types of stocks. Examples of these stocks would include:

• First Industrial Realty, Inc. (FR) - 7/28/08 Mid-day Yield: 10.7%/Growth 3.4%
• Consolidated Edison (ED) - 7/28/08 Mid-day Yield: 6.0%/Growth 1.0%

Low Yield/High Dividend Growth: After being burned on an over-allocation of high yield stocks, would be dividend investors normally start reading-up on the subject. The first thing that they learn is that Dividend Growth is more important than Dividend Yield. While Dividend Yield will stroke you today, Dividend Growth is much more important to long-term wealth creation. Companies in this category tend to be well established, dominate in their market and in industries less affected by cyclical geopolitical factors. However, it is important to note that these stocks carry a different kind of risk. Since your long-term return is dependent on the companies increasing their dividends over many years in the future, there is a real risk of something occurring that would prevent them from executing their strategy. Examples of these stocks would include:

• AFLAC Inc (AFL) - 7/28/08 Mid-day Yield: 1.8%/Growth 22.3%
• Canadian National Railway Co. (CNI) - 7/28/08 Mid-day Yield: 1.7%/Growth 18.0%

Moderate Yield/Moderate Dividend Growth: This is a category that is not often discussed since most dividend investors focus on the other two categories above. I would classify stocks in this category with yields from 3.5% to 8.0% and a dividend growth rate between 5% and 15%. For some this defines the perfect dividend stock - good current payment with good future opportunity for growth. These companies' stories are varied. For some, they would normally reside in one of the other two categories, but hit a bump in the road. For others they normally reside here due to their growth and risk profile. Examples of these stocks would include:

• General Electric (GE) - 7/28/08 Mid-day Yield: 4.3%/Growth 12.4%
• U.S. Bancorp (USB) - 7/28/08 Mid-day Yield: 5.9%/Growth 12.8%

As with all investments, risk can never be eliminated. However, to minimize risk I employ an asset allocation model. In addition, I limit my investments in each of the above categories.

The dividend growth rates quoted above are the average annual rates from 1998-2007.

Disclosure: Author is long in FR, ED, AFL, CNI, GE and USB.

Comments

[pennystocks...:]

Why would you own a stock with an annual dividend growth of merely 1 % (ConEd) when inflation has averaged 3.8 % annually since 1947?

2008 Jul 29 11:45 AM

[Jake2:]

PS: There is no such thing as a "perfect" anything stock.

2008 Jul 29 11:46 AM

[capgain:]

Any listing of high-yields should include BAC @ 8%!

2008 Jul 29 12:56 PM

[Walt17:]

There is a problem with these high growth rate dividend stocks. The payout is low and the growth rate will not last! When the payout is 20-40 cent, a few pennies makes for a nice percentage increase. Long before the payout becomes worthwhile, that growth rate is going to come down.

2008 Jul 29 01:02 PM

[Quizzoid:]

How about Microchip Technology? (Ticker: MCHP) Currently yielding over 4%, and the company has announced its intention to raise the dividend EVERY QUARTER. (Just last week, the quarterly dividend was raised from 33 cents to 33.8 cents).

About 75% of their sales are overseas, they have thousands of customers, they sell to a variety of end markets. The stock typically sells at a premium to its peers, but is down 20% from recent highs.

2008 Jul 29 01:10 PM

[pennystocks...:]

I don't like MCHP as a dividend play. The microchip business is highly cyclical and competitive. For how long will they be able to pay that gigantic dividend?

@Walt 17: Beg to differ. Some blue chips are able to increase their dividend substantially over long periods of time. Johnson & Johnson managed to increase the dividend at an average 14.4 % annually - for 30 years.

2008 Jul 29 04:00 PM

[winslow:]

So, if you are at the point of retiring, would you prefer a stock paying 3% and growing or a stock paying 6% but is growing at a slower rate?

2008 Jul 29 05:29 PM

[sr9web:]

Uh, what about PWE and DSX - two of the best dividend stocks you can own, IMHO.

2008 Jul 29 10:14 PM

[John-Galt:]

This whole dicussion is nonsensical. In today's market, buying a temporarily high-yielding stock may be the best strtegy if the dividend is secure. Everything reverts to the norm and an 8% yield like BAC should double in price, brnging yield back to 4% (unless they cut the dividend). The attraction of high dividend growth is the presumption that the yield will remain constant (thereby pushing the price up as the dividend increases). If that model fails, growth in dividend is mostly unimportant. Keep in mind that a 6% yield and 3% growth will pay much more for years than a 3% yield and 6% growth (it takes about 15 years just to catch up). WIthout price appreciation, it is an easy choice.

2008 Jul 30 09:26 AM

[notsosmart:]

the inflation rate of the 5 basic daily needs is app.15-16%.i suggest you check out FRO & NAT.nobody has figured out a way to pave over the ocean.i have no agenda or connection to these stocks except to happlly own them.unless you are young & dont need income growth is meaningless.my portfolio avg income-9-10%.i would like the 15% but cant take too many chances on real high yields.

2008 Jul 30 10:39 AM

[Newby:]

For "notsosmart", would you mind letting us know your portfolio with income of 9-10%

2008 Jul 30 01:05 PM

[notsosmart:]

newby- i have many but i will give you a few .FRO,NAT,FGP,APL,AHR,.... have over 50 different stocks 100-200 shares of each so im in no real danger unless the whole thing collapses.of course as some decrease in value the yield looks even better.i dont care about growth.if a stock more than doubles i still hold if i feel the div. will remain

2008 Jul 30 08:46 PM

[lefty:]

I love to simplify things!
We bought pvx for $8.50 The dividend, even after taxes, has paid for the shares. We still own them and still receive $550 per month.
Enjoying my retirement!

2008 Jul 31 06:07 AM

[balegoba1966:]

I like floating rate preferreds in this environment. Two that I own are AEB and USB-pH. AEB has a minimum dividend of $1/year. USB-pH has a minimum of $.875/year. Both rise with LIBOR rates, so when interest turn up to combat inflation in the not-too-distant future, the dividends will rise with interest rates. In the meantime, the entry prices have been really beaten down. Details are at quantomonline.com.

2008 Jul 31 01:36 PM

[berberick:]

to penny stock , why would you invest in stock with low div. growth like ED . Over last 10 years stock has also earned about a 25% stock price gain along with avg. yield of about 5.5% . Stock has been very stable ! So investors have gained about 8% a year . Not huge , but not bad .

2008 Sep 18 03:56 AM

[berberick:]

To quiz , div. will not last for MCHP will not last . They can barely cover div. now . They are in highly viotile biz. The stock is a roller coaster to put it mildly ! They will not be able to grow fast enough to keep raising div. they can barely cover now !

2008 Sep 18 04:01 AM

[berberick:]

To penny , love call on JNJ ! Also look at PEP , PG . these guys , JNJ , PG , and PEP have all doubled pay-out over last decade .

2008 Sep 18 04:03 AM