While the media keeps saying a recession is just around the corner, when is it going to strike? The truth is that no one knows. All we can do is give estimates. In my last article about the economy, which I published on November 2, 2017, I warned that interest rates and debt could pull the economy into a recession sometime between October 2019 and February 2020. I also note that fellow contributor Andrew McElroy wrote that a recession could strike in May of 2019. And since the S&P 500 (SPY) seems to start falling 6-12 months before a recession, the peak could be anywhere between May of 2018 and August of 2019. Yes, that means the peak could have already happened. But instead of trying to predict the peak, how about we figure out ways to survive the coming recession? I will focus on how dividends can help one beat the recession.
Stock market downturns due to recessions vary in length of recovery and magnitude of downfall. But if an investor can get enough dividend income, he can ride out the recession by not having to sell a single stock. I will use the spending of the average retired household. In 2014, the average retired household spent $40,938 per year. In 2016, the average retired household spent $45,756 per year. Assuming the cost increases by roughly the same amount, the average retired household in 2018 would spend about $50,574 per year. The estimated average social security benefit in 2018 per working person is about $16,848. So the problem is now how to create a dividend income of $33,726 per year. These dividends must be sustainable and rising faster than the annual core CPI (consumer price index) rate of inflation, which is about 2.3% (but ideally more than the rising cost of retirement, which is about 5.8%).
The table below was created by rearranging the 90 dividend aristocrats listed here by decreasing dividend yield and selecting the 20 stocks with yields over 3%. I then added statistics that I felt are important for insuring the sustainability of the dividend. The dividend growth rate, payout ratio, and return on equity came from Seeking Alpha. The current ratio (plus payout ratio for HP and return on equity for KMB) came from Yahoo Finance, while the debt/equity ratio came from GuruFocus. “Good” numbers are highlighted green, “warning” numbers red are highlighted red, cells with three-year dividend growth rates near or above 5.8% are highlighted orange, and rows with the best high-yield dividend aristocrats are highlighted yellow.
Source: Created from Dividend Aristocrats: 25-Year Dividend Increasing Stocks
Growing dividends are a sign of potential financial strength. Increasing dividend growth rates could signal a dividend growth company that is experiencing accelerating growth and potentially greater dividend growth rates in the future. Likewise, decreasing dividend growth rates could signal a dividend growth company that is experiencing decelerating growth. Seven companies had increasing dividend growth rates.
- AbbVie (ABBV), Black Hills Corp (BKH), Consolidated Edison (ED), Leggett & Platt (LEG), Old Republic International (ORI), Tanger Factory Outlet (SKT), and Universal Corp (UVV)
Three companies had a large decrease in their dividend growth rates.
A payout ratio near or above 100% is considered to be unsustainable, signaling a possible cut in dividends in the future. Likewise, a payout ratio less than 50% could mean that the company has plenty of room to grow dividends in the future. Four companies had a payout ratio less than 50%.
Five companies had a payout ratio near or above 100%.
- Coca-Cola Co. (KO), Federal Realty Investment Trust (FRT), Mercury General (MCY), PepsiCo (PEP), and Tanger Factory Outlet (SKT)
Ideally, debt should be less than equity, which gives a ratio below one. When interest rates are low, debt is cheaper than equity, and a ratio of two becomes ideal. But when interest rates rise, debt could become a drag on a company. During the great recession, stocks with a high ratio tanked. Seven companies have a debt/equity ratio less than one.
- Chevron Corp (CVX), Exxon Mobil (XOM), Helmerich Payne (HP), Mercury General (MCY), Old Republic International Corp (ORI), Procter & Gamble (PG), and Universal Corp (UVV)
Three companies have relatively high debt/equity ratios.
The current ratio, which measures a company’s short-term liquidity and its ability to pay current liabilities, equals current assets divided by current liabilities. A current ratio below one means the company must raise cash to pay current liabilities, often meaning dilution. Ideally, the current ratio should be about two. Four companies have a current ratio about two or more.
- Helmerich Payne (HP), Leggett & Platt (LEG), Old Republic International Corp (ORI), Universal Corp (UVV)
Eight companies have a current ratio less than one.
- Black Hills Corp (BKH), Consolidated Edison (ED), Exxon Mobil (XOM), Kimberly-Clark (KBM), Mercury General (MCY), Procter & Gamble (PG), Target (TGT), and Universal Health (UHT)
The return on equity, which measures a company’s profitability and thus its ability to keep paying dividends, equals net income divided by shareholder equity. Research shows that stocks with a return on equity above 17% do well. However, a ROE can also be inflated by debt. Eight companies have a return on equity greater than 17%.
- AbbVie Inc. (ABBV), AT&T (T), Kimberly-Clark (KMB), Leggett & Platt (LEG), PepsiCo (PEP), Procter & Gamble (PG), National Fuel Gas Co. (NFG), and Target (TGT)
The best high-yield dividend aristocrat seems to be Old Republic International Corp with five “good” (green) numbers and no “warning” (red) numbers. But the dividend growth rate is below the inflation rate. The next two best high-yield dividend aristocrats seem to be Leggett & Platt and Universal Corp with four “good” (green) numbers and no “warning” (red) numbers. Universal Corp’s dividend growth rate is above the inflation rate but below the rising cost of retirement, but it appears the dividend growth rate will grow above the rising cost of retirement in 1-2 years. Leggett & Platt’s dividend growth rate is slightly below the rising cost of retirement but appears to soon grow above it. AbbVie is also very close with four “good” (green) numbers and one “warning” (red) numbers. But fellow Seeking Alpha contributor Dividend Sensei argues that their equity is low because they doubled their treasury stock (buybacks) and they have an A- credit rating. He also argued that the stock has “about 700% total return potential.” The company has a dividend growth rate far above the rising cost of retirement. Thus, AbbVie and Leggett & Platt seem best for current retirees with Universal Corp possibly being added to the list. Other companies that have three-year dividend growth rates near or above 5.8% but fail to make the list are Black Hills Corp, Coca-Cola Co, PepsiCo, Tanger Factory Outlet, and Target. Surprisingly, AT&T and Procter & Gamble, which were the most common super safe stocks according to analysts, did not make the list either.
Below are three sample portfolios to create a dividend income of $33,726, assuming equal dividend income from each company in a portfolio.
Just the three best high-yield dividend aristocrats for retirees:
The three best high-yield dividend aristocrats for retirees plus companies that have three-year dividend growth rates near or above 5.8%:
The three best high-yield dividend aristocrats for retirees plus companies that have three-year dividend growth rates near or above 5.8% and the two most common super safe stocks:
Since price growth is unpredictable, retirees should probably focus on what is predictable, dividend income. The two best high-yield dividend aristocrats for retirees, Leggett & Platt and Universal Corp, are not the stocks one hears often in the news. But the next stock on the list, AbbVie, has been often mentioned in the news. If one wants to create a portfolio of these companies with equal dividend income from each company in a portfolio, he would need between $859,000 and $936,000.
Disclosure: I/we have no positions in any stocks mentioned, but may initiate a long position in T, ABBV over the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.