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Dividends Can Dampen Volatility

|Includes:BAC, C, HSY, MMM, Netflix, Inc. (NFLX), PG
With the markets lurching back and forth in the throes of the two dominant ongoing stories, the Eurozone debt crisis and the current stalemate in Washington with the debt ceiling deadline, investors are naturally nervous. Every other day, or perhaps hour by hour, the markets' shifting landscape can rattle anyone. One day, the Greek debt issue has been apparently resolved, the next day, default appears inevitable. Meanwhile, the political parties in Washington have chosen up sides and seem to be turning the debt ceiling into yet another occasion for a partisan political smackdown. Can you blame investors for being emotionally exhausted?

Is There Anywhere To Hide?

At times like this, although the VIX Chart, the Chicago Board of Options Exchange measure of implied volatility on the near term action of the S & P 500, was registering an 18—though things felt like it should have been higher—investors want to know where they can go to either hold on, buy or sell the things they already have, and not get burned-- or get burned further. While there are many strategies that can be used in times like these, they vary in complexity and effectiveness. One of the strategies in the face of volatility is not even usually thought of as a strategy, but it can help investors. That's investing in dividends.

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Cross Currents

It's important to remember there are all kinds of cross-currents in these markets, much more than Euro debt or the throwdown in Washington. We are in the beginning of earnings season where companies are reporting their second quarter performances. While this has been pushed to the backdrop, it is part of the giant economic puzzle that the market is trying to get a feel for to determine where the second half of the year might go. If investors are, for example, buying Netflix (Nasdaq: NFLX) stock as it touches its new highs, they are going to have to deal with the underlying volatility with the potential wild swings we might see in overall market action. Even sophisticated investors who utilize multiple hedging techniques can get caught when one current, the trending stock, clashes headlong with another, a downward market on some Euro news, or even Euro rumors.

Even The Pros Have Trouble

It gets more complicated. Even savvy star professional investors such as John Paulson, who's built his Paulson Fund into a nearly $40 billion size by making terrific moves, run into difficulties in a market like this. Hedge fund investor Paulson made his reputation on his prescient bet on subprime mortgage and followed that up with a call on buying the wounded big banks which worked out initially well. Recently? Not so well. Supposedly, Paulson has dumped a large chunk of his Bank of America (NYSE: BAC) holdings as its fundamental problems with mortgages proved again worse than previously thought, and another major holding, Citigroup (NYSE: C), hasn't had the rebound many thought it would. Given that the two major worries revolve around debt, financials and banks, those stocks or that sector doesn't appear to be a good place to be.

Fundamentals Not Always Enough

While many observers have rightly questioned the fundamentals of a high-flyer like Netflix –as in how will it stave off increasing competition? Or the banks--their balance sheets are only improved compared to how terrible they were—what about investors in stocks of duller companies or companies which are doing well? As you know-- and we investors learn from bitter experience-- every market takedown sends down the good with bad, it's only a measure of how much. So if you're a conservative investor and don't care to play with Netflix or in the fast-falling IPO space, and if you only have passing interest in what the hedge funds are doing, but you own things like Procter & Gamble (NYSE: PG) or Hershey's (NYSE: HSY) or 3M (NYSE: MMM), you're still going to feel some pain.

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Dividends Can Help

There is of course little solace in collecting a 3% dividend while your stock travels south with a 25% share price drop, that's a given. There is, however, on second look, something of a potential silver lining in the dividend arena. As awful as it sounds, when the bottom fell out of the S & P 500 in March, 2009, with what ultimately was a more than 40% drop in the average, P& G dropped only half as much, to 20%. Furthermore, the stock climbed back into positive territory much quicker—though admittedly, not quickly-- than the S & P, as P & G clawed back to its previous levels over a year faster than the S & P did.

Investors might object and say it would have been better to get out of the market altogether, or sell ahead of the crash and buy back in and so on—all true enough—but we are dealing with real-world investing situations here, how investors actually buy and sell, not a theoretical academic model. Fact: If you were holding P & G stock for the long term, you bounced back far faster than the S & P did. Don't forget you were collecting dividends also, which remained in full force. Another real-world strategy might have been to add to your position after the carnage, when prices were opportunities to buy in at bargain rates. Again, sometimes that's easier to see in retrospect.

Don't Overlook Dividends

The investing takeaway is that while dividends aren't protection which make you somehow invulnerable to the vicissitudes of the market, sometimes they can be judiciously employed to dampen the blows. Even shorter term investors who depend on dividend cash as ready income still receive that cash from the greatest of dividend payers in times of crisis. It's just another thing to consider, the value of dividend stocks.

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Stocks: NFLX, BAC, C, PG, HSY, MMM