Why Dividends Matter In A Changing Market

Includes: ABT, JNJ, KMB, MCD, PG
by: David Crosetti

Lately, it seems that dividend investing has become all the rage. Articles are being written at just about every financial site, talking about dividends. When you look at Money Watch, MSN Money, Kiplinger, Money Magazine, Forbes, Smart Money, and even here at SA, there is no shortage of dividend investing commentary.

These articles run the gamut from primers on how to go about becoming a dividend growth investor to reasons why you should not be a dividend growth investor and instead, focus on growth. Warnings come about the risk of dividend growth investing, the challenge of picking the "right" stocks, and the perils of market timing.

These cautionary articles also suggest that dividend investors should not become complacent with their portfolios, that dividend investors should not forget about total return and capital gains, that dividend investors should consider a contrarian approach to investing away from dividend investing--as the "hype machine" is in full swing. In fact, one article in particular cautioned that dividends were becoming the new National Anthem.

So the message becomes clear. Be careful about investing in dividend paying stocks, because while they may be fashionable today, so were other investments, like technology stocks and we all know what happened with that "gravy train."

Some of you might be familiar with the "Nifty 50." This was a can't miss list of 50 of America's best companies for investors to hold "forever." Most were selling at PE's of 30 or more, but, no matter. Well, the "Nifty 50" is no more as that didn't work out all that well, either.

Mark Hulbert has written an article that I think you might find interesting. He says:

Believe it or not, the stock and bond markets are behaving in a way that, with only one exception at the depths of the 2008-2009 credit crisis, they have not since 1958—53 years ago: The stock market’s dividend yield is now above the interest rate on the 10-year Treasury note.

Hulbert points out that in the pre-1958 era, that the bulk of investor gains came, not from price appreciation, but from dividends. While many current investors came to the market in the 1980's and 1990's, their experience was with a post dividend market, where stock price appreciation became the norm and dividends became, at best, an afterthought.

Increased volatility in the financial markets created the environment where stock investing became growth oriented and investors left dividend paying stocks behind, in an effort to get on the capital gains train. Income investing became relegated to the bond markets and utility stocks, which were largely seen as "widows and orphan" plays.

Today, however, with dividend yields outpacing the 10 year Treasuries, perhaps we are beginning to see a paradigm shift back to that pre-1958 market model. Investors can now find companies that have a history of paying dividends, companies that are increasing those dividends annually, and companies that have the earnings power to continue making those dividend payments. Dividend investing may very well become the norm moving forward.

While no investment is risk free, the inclination of dividend growth investors is to capture income from dividends, reinvest that income in either more shares of the same company or place that money into new investment opportunities.

While perhaps this style of investing may seem "boring" the investment strategy is not a new one, just one that seems to fall into and out of favor. However, as a long term strategy, dividend investing has been a slow and steady approach to building wealth.

Five Dividend Champions to Consider: Abbott Laboratories (NYSE:ABT) is a diversified healthcare company that develops, manufactures and markets a wide range of medical services.

ABT has been paying dividends for 49 years. The 5 year dividend growth rate is 9.7%. ABT is trading at a PE ratio of 15 and yields 3.8%.

Johnson & Johnson (NYSE:JNJ) is a diversified healthcare company that develops, manufactures and markets products in three primary lines of business: Pharmaceuticals, Medical Devices and Diagnostics and Consumer Products.

JNJ has been paying dividends for 49 years. The 5 year dividend growth rate is 10.6%. JNJ is trading at a PE ratio of 15 and yields 3.7%.

Procter & Gamble (NYSE:PG) manufactures household, personal care, food and paper products.

PG has been paying dividends for 55 years. The 5 year dividend growth rate is

11.6%. PG is trading at a PE ratio of 16 and yields 3.34%.

Kimberly Clark (NYSE:KMB) manufactures a variety of consumer products. It is organized into three business segments: Personal Care, Consumer Tissue, and Health Care.

KMB has been paying dividends for 39 years. The 5 year dividend growth rate is 8.1%. KMB is trading at a PE ratio of 17 and yields 3.96%.

McDonald's (NYSE:MCD) is the world's largest restaurant chain, with 31,000 fast-food restaurants in 119 countries.

MCD has been paying dividends for 35 years. The 5 year dividend growth rate is 27%. MCD is trading at a PE ratio of 17 and yields 3.25%.

Conclusion: The five stocks mentioned here are owned in my personal portfolio. While these particular companies represent Dividend Champions that you might consider addiing to your portfolio, it is always prudent to doyour own due diligence. One of the sites that I like to use for research is David Fish's CCC company lists.

As the market trends in what appears to be a sideways trading range, dividends will begin to play a larger role in the investment strategy of many investors, as in the pre-1958 era, discussed earlier in this article.

In my opinion, dividend investors should be screening for yields that are greater that the 10 year Treasury. Companies identified should have a long history of dividend payments, a strong history of dividend growth, and the earnings going forward to sustain those dividends.

In addition, there should be no shortcuts taken, in terms of examining a company's fundamentals. Minimizing risk is always my own goal and if initiating new positions, once I have identified a company that I want to own, my price point will be relative to a dividend yield on cost.

Disclosure: I am long MCD, PG, ABT, JNJ, KMB.