Dividends: Delaying Alpha, Delaying Gratification

Includes: ABT, AFL, DOV, EXC, JNJ, PG, XOM
by: Pey Shadzi

One of my favorite things to do is go grocery shopping. Many of you frugal minded readers out there know exactly what I'm talking about. Rather than shopping for things I don't need-- like new clothes, faster electronics or (God forbid) a new car-- I prefer to spend my hard earned-earned cash on a necessary consumer staple: food.

When you buy things in bulk, like I often do, you can buy a package of 24 assorted bars, including all types of random flavors. Some you tend to like, some you might not. Are you the type of person who goes for your favorite flavors first, leaving the undesirable varieties left in the box for later, or do you work your way through the "worst" selections first, delaying gratification in order to enjoy the tastier bars later on? Work with me, I think there's a valuable analogy in play here.

As it turns out, many growth investors might argue purchasing shares of stocks with relatively high P/E ratios is a true form or delayed gratification, as these stocks may not be in line with earnings for many years or even decades down the line. On the other hand, value investors point out that their picks often times tend to underperform the overall market for a while, but when taking dividends into consideration and accounting for extremely long reinvestment periods, value stocks tend to crush the returns of capital appreciation. It's often a heated battle out there-- am I right?

Moreover, when investing in dividend growth companies like ExxonMobil (NYSE:XOM), Abbott Laboratories (NYSE:ABT) or Procter & Gamble (NYSE:PG), a retiree may be lucky enough to keep all of his shares for his entire life, simply collecting the dividends which are kicked off each quarter in his investment account, not having to sell shares. Better yet, he may even receive a "raise" from these companies year after year, such as the aforementioned companies have been successfully offering for decades.

One thing I truly admire about dividend-paying companies is that they generally have lower betas than their pure growth counterparts. Though many investors live by the mantra "no risk, no reward," I tend to disagree with this sentiment. Recent research in Financial Analysts Journal suggests sticking to low beta, low volatility stocks over the long run is more likely to produce greater positive alpha for value investors rather than the capital appreciation crowd.

Of course, as many comments in my previous article Why Dividend Investing Is Superior To Growth pointed out, it's not sensible to have a "one size fits all" approach to investing. Investors have their own unique preferences, desires and motives for doing what they do. Sure, I can buy that.

For me though, I am completely content checking my Sharebuilder account each and every morning, crossing my fingers for new dividend pay outs and sleeping well every night with low beta stocks. In fact, I've somewhat slowed down on the purchases over the last few months but I continue to reinvest all my dividends while adding modest amounts of fresh capital to my account in order to fuel the power of compounding.

With that said, here are seven dividend-paying stocks I own and love -- which I'm perfectly comfortable "delaying alpha" for -- in my taxable investment account:

1. Exelon Corporation (NYSE:EXC). A favorite holding of mine that has been out of favor and has consequently juiced up its dividend yield over the last few months. I feel like a kid in a candy store watching the yield stay above 5.3%, allowing my dividends to reinvest while snapping up more shares. EXC is currently offering a 5.4% dividend yield with a relatively modest payout ratio of 56% and has been paying dividends since 1980. Sure, this holding is not going to make me rich anytime soon, but I'm willing to delay gratification while compounding for longevity in this case.

2. Abbott Laboratories (ABT). Another pick I continue to monitor but have no desire at all to sell. ABT is sporting a current dividend yield of 3.4% with a payout ratio of 62% and has been raising dividend payments for so many decades that it's reasonable to believe ABT will continue to do so in the future. ABT may not be a screaming buy at the moment at these prices, but its low beta of 0.23 and continuous streak of faithfully paying shareholders quarter after quarter makes it one of my favorite holdings. I can't wait to check my account balance in 20 years to see how things have grown.

3. Johnson & Johnson (NYSE:JNJ). Sure, you could argue this is a stock that hasn't gone anywhere in years. Many investors may have become frustrated and sold long ago, looking for higher yielding growth stocks. Not me though-- I've been absolutely thrilled that JNJ continues to pay me a strong 3.5% dividend, allowing me to reinvest my shares at reasonable prices for the last 36 months since I initially began building a position. Better yet, I'd like it more still if I could "lock in" this price in order to allow my dividends to build up a more sizable position over the next few decades. Some of you might not want to hear that, but honestly it's the truth. A lack of capital appreciation in this case is a faithful compounding lover's dream.

4. Aflac Incorporated (NYSE:AFL) is one of those stocks that's seen an impressive return over the recent past. YTD it's up nearly 10%, and had you picked up shares when it was trading in the low $30s last year, you would be sitting on gains of over 40%. For me, I'd love to see a pullback in prices so my dividends payments could reinvest and buy up more shares, giving me an opportunity to add fresh new capital to a lower share price and juiced dividend yield. Currently, AFL is offering a 2.8% dividend yield with a 29% payout ratio. If a significant pullback were to occur, we would be so lucky as to see a 4% dividend yield and a 29% payout ratio. (In other words, the stars would be aligned and my modest stash of cash in my taxable account would be deployed.)

5. Dover (NYSE:DOV) is an extremely capable and diversified company that flies under the radar a bit more than other dividend aristocrats. Though at 1.35 its beta is significantly higher than the other four aforementioned picks, DOV offers a 2.0% dividend yield with a very reasonable 25% payout ratio. I love DOV because, much like XOM in the 1970s, it's one of those companies that I can just see being a formidable force to be reckoned with in the future and imagine retired folk of the future saying, "I began purchasing shares in 2012 and with reinvested dividends, I'm sitting on a comfortable retirement and $2 million. I'll never have to work again!" Of course, I could be off base with that prediction, but taking DOV's history of faithfully dishing out dividends to its shareholders, the reality may not be far off.

6. ExxonMobil (XOM) is a perfect example of a company that in the future will make you wait to see the power of compounding at work. Though it's only dishing out a mediocre 2.2% dividend yield, that reinvested dividend over the course of a few decades -- alongside the capital appreciation and share buyback plans XOM has to offer -- sets the mold for the "delayed alpha, delayed gratification" scenario perfectly. With $433 billion in annual revenue and over $12 billion of cash on hand, XOM will likely be able to continue paying out and raising its dividend for many years to come.

7. Procter & Gamble (PG) is another anchor and amazing dividend-payer in my arsenal. Currently PG is offering up a 3.1% dividend yield and a 60% payout ratio. PG's beta of 0.3, along with its stable, necessary and continuously growing revenue stream makes it a strong candidate for outperforming over the long haul when taking reinvested dividends into consideration. I've been happy to reinvest PG's dividend faithfully over the last few years and look forward to continuing to not only purchase its products, but live off the dividend income one day down the road.

Investing styles and mantras will undoubtedly vary slightly from person to person. Many growth investors would prefer a company like Google Inc. (NASDAQ:GOOG) or Netflix, Inc. (NASDAQ:NFLX) to satisfy their investing methods. Others prefer a lower beta and lower risk profile approach to building wealth, focusing on reinvestment of dividends and the power of compounding. To each his own, of course-- but for the meantime, I'll sleep quite well tonight knowing my portfolio of dividend aristocrats and dividend growth stocks have a superior chance of outperforming over the long run. Best of luck out there, let's compare notes in 30 years, shall we?

Disclosure: I am long PG, XOM, ABT, EXC, AFL, DOV, JNJ.