Dividend Stocks Beat the Market

There's a good deal of research that shows dividend-paying stocks tend to outperform all other stocks over the long term, and they tend to do so while offering below-average risk to boot. This is why buying and holding solid dividend payers is my preferred method of investing.

Of course, you've probably read a thousand articles that began just like this one, only the words "dividend-paying" were replaced with "small-cap" or "value" or "high-growth." It seems that just about everyone believes in his or her personal investment style -- or at least claims to -- and can conveniently point to some "research" that proves its success.

Whether or not that research happens to be on the back of a cereal box is often left out of the claim, but the result is the same: Folks simply don't know what to believe. What outperforms what? Who outperforms whom?

My research beats your research
Honestly, I don't know that I can completely answer those questions. What I do know, however, is why I believe what I believe, and why you should, too.

I have complete faith in the ability of dividend stocks to outperform the market over time. The research that I've pointed to in my articles over the years is part of that faith, but it's not the whole story. As I've recently mentioned, professor Jeremy Siegel's new book, The Future for Investors, includes vast amounts of market data that support the fact that boring old dividend stocks outperform so-called "growth" stocks over the long term when reinvested dividends are taken into account.

Personally, I think Siegel's data is the most thoughtful and extensive market research I've ever seen. He basically removes the impact of factors that have skewed others' research, such as survivorship bias (i.e., the fact that most research only includes companies that are still operating, not those that merged or went bankrupt). In my mind, his results unequivocally prove that dividends -- and their reinvestment over time -- are the key to downright miraculous investment returns.

In plain sight
But at the end of the day, it's still just research, and investors need more than that. They need specific, real-life examples. A general investment strategy is worth about as much as a barber at a hair plug convention (i.e., not very much). In other words, a strategy only benefits investors if it can be implemented successfully -- in the real world.

That's the reason I began writing the Fool's dividend-stock newsletter, Motley Fool Income Investor, two years ago. I wanted to employ my dividend-focused strategy in plain sight of my readers, and use it to make money for them. I wanted to offer specific investments, tell them when to buy, and tell them when to sell.

More than that, I wanted to keep them up-to-date on all past recommendations so nothing would sneak up on them. And most importantly, I wanted to look back at regular intervals and hold myself accountable for my investment performance.

Well, I've been doing all those things for the past two years, and I'm happy to say the results have been good. It seems that our numbers are very much in line with the theory that dividend stocks tend to outperform the market with lower risk.

Overall, the Income Investor portfolio has produced a total return of 16.64% vs. a market return of just 10.51%. It's worth mentioning that recommendations at least six months old have produced a return of 20.53%. Readers are also pulling down a dividend yield of over 4.5%, year in and year out, while enjoying this outperformance -- all the while suffering less business and volatility risk. That means the returns are even better on a risk-adjusted basis.

Since we dividend investors tend to hate losing money twice as much as we enjoy making it, it's also important to note that out of 50 total recommendations, only six have lost money for investors since their selection. For those of you playing the home game, that translates into an accuracy rate of almost 90%.

Additionally, 77% of my picks are currently beating the S&P 500. That's not a bad figure in its own right, but it's particularly significant when you consider that according to Standard & Poor's, almost 77% of mid- and large-cap mutual funds underperformed the S&P during the same period.

Though companies such as AmSouth Bancorp (NYSE: ASO  ) and Alltel (NYSE: AT  ) have done well for us, my best performer has been Constellation Energy (NYSE: CEG  ) , which soared 55% in just 14 months. Furthermore, our readers were able to lock in yields of more than 3% on these top-quality companies, with AmSouth investors locking in a payout of almost 5%.

The Foolish bottom line
Fear not: None of that is swelling this melon sitting on my shoulders. I'm only as good as my next recommendation, after all. But I believe the brightest days for our strategy lie ahead.

With relatively high market valuations, slowing earnings growth, rising interest rates, a possible inversion of the yield curve, and oil prices floating around $65 per barrel, the current bull market could be in jeopardy. That's the bad news.

The good news: Dividend investors are supposed to do particularly well in this kind of market -- and I believe we're going to do just that. Despite the greater level of price appreciation we've enjoyed over the past two years, the S&P 500 is trading at about 19 times forward earnings vs. just 14 times for the Income Investor portfolio. That means these top-quality companies are trading at a 26% discount to the market, yet they also boast a dividend yield nearly 2.5 times that of the S&P 500 SPDR (AMEX: SPY  ) .

One should never be overconfident, but I'd say those are reasons to be hopeful about our future. Here's to turning these two years of market-beating success into 10.

Would you like to join the dividend investors? I'll let you in on a not-so-secret secret: The Fool offers a free 30-day trial toMotley Fool Income Investorthat will gain you access to 50 past recommendations, plus all updates and special reports. If you choose to cancel during your trial period, I guarantee you won't pay a cent, but all of that knowledge is yours to keep. Of course, we hope you'll find it rewarding enough to stick around.

Mathew Emmert likes to outperform, but he doesn't look down his nose at those who don't. Live and let live, ya know? He owns shares of AmSouth Bancorp. In case you missed the 40 times he mentioned it in this article, he's also the chief analyst ofMotley Fool Income Investor. The Fool has a disclosure policy.


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