Editor's Note: An earlier version of this article claimed Moody's recently cut its dividend. We regret the error.
Sure, there might be folks who will become rich by finding small-cap stocks like Keryx Biopharmaceuticals (Nasdaq: KERX ) , DragonWave (Nasdaq: DRWI ) , and Telestone Technologies (Nasdaq: TSTC ) , then selling when their holdings' market caps grow to more than $1 billion apiece.
Others will become wealthy with smart options plays; still others by discovering growth stocks such as Perfect World (Nasdaq: PWRD ) or MercadoLibre (Nasdaq: MELI ) before other investors catch on. But many investors don't have enough time to master these complicated, labor-intensive tactics.
I'd like to share with you a simple, easy strategy for becoming wealthy -- and then give you a stock recommendation based on it. Although it's not complex, it takes discipline to adhere to the rules. But if you follow this advice, you'll be well on your way to a million-dollar portfolio.
Keep it simple
One of the biggest mistakes investors make is complicating the process. Academics have proven that more information doesn't necessarily lead to better decisions -- just to overconfidence. Even worse, the more time and effort you put into researching, analyzing, and deciding whether to buy a stock, the more likely you are to buy it -- even if it's a horrible stock after all.
Overconfidence and overcommitment are counterproductive in investing. That's why keeping your investment criteria simple and easy can help you avoid falling into these traps.
What sort of criteria am I suggesting? Just two simple steps:
1. Find strong, long-term dividend-paying companies.
Dividends are the surest gains you can find in any market environment -- most especially a market downturn. As Bloomberg recently reported, the 10-year trailing return of the Dow Jones Industrial Average was negative through Sept. 30. But when you factored in dividends, the return was actually a positive 18%.
What's more, between January 1926 and December 2004, 41% of the S&P 500's total return came from dividends. Without dividends, a $10,000 investment in 1926 would have become $1,013,000 by 2004 -- a remarkable return, to be sure. But with dividends, $10,000 would have become $24,113,000.
It's best to look for companies with a long history of paying out dividends. If a company only has a few years of dividend history under its belt, those payouts might be cut or suspended to fuel future growth.
Of course, that didn't stop many former stalwarts like Pfizer (NYSE: PFE ) from cutting their payouts over the past year. So it's also wise to find companies with a strong culture of insider ownership and enduring demand.
And you should also find companies with predictable, sufficient free cash flow, and reliable lines of business, so you can be reasonably sure these dividends will continue to be paid. This is often easier said than done, but just below, I'll tell you whom I look to for help in this regard.
But now, for the hard part ...
2. Hold forever.
The strongest dividend-paying companies raise their dividends over time. So when you hold one for long enough, you eventually reach a point where you're making more money annually in dividends than you initially invested in the company.
This is hastened when you reinvest your dividends back into the company, with each dividend purchasing even more shares of the company, meaning even more payout at the next quarterly dividend.
So long as the business continues to perform, and the company continues to maintain or raise its payouts, the simplest and most lucrative approach is to remain an owner and continue collecting your dividends.
Implement this strategy today
Motley Fool dividend expert James Early has seven "buy first" stocks for members of his Motley Fool Income Investor newsletter service, with an average yield of 3.8%. In his opinion, these stocks are timeless investments that should serve as the foundation for a dividend-paying portfolio -- stocks you can feel comfortable holding for decades.
One of the companies on this list is legendary dividend payer Johnson & Johnson, currently yielding 3.1%. This company, which has made payouts since 1944, also has a long history of increasing its dividend. Over the past five years alone, it has grown its dividend annually by an average of 12%. Better yet, it's trading well below James' estimate of its intrinsic value.
We've seen more than our fair share of dividend blowups over the past year, but if you look for the three criteria I outlined above when looking for dividend-paying companies -- insider ownership, a company with enduring demand, and sufficient free cash flow -- you're following the easiest way to become a millionaire.
I invite you to read more about why James believes Johnson & Johnson is a strong core dividend holding, check out the six other stocks on his "buy first" list, and discover how he uncovers top-notch dividend investments, completely free for 30 days. Click here for more information.
This article was originally published Oct. 27, 2009. It has been updated.
Adam J. Wiederman doesn't own shares of the companies mentioned above. Moody's and Pfizer are Motley Fool Inside Value recommendations. MercadoLibre and Perfect World are Rule Breakers picks. Moody's is a Stock Advisor selection. Johnson & Johnson is an Income Investor choice. Motley Fool Options has recommended writing puts on Moody's and Perfect World, and buying calls on J&J. The Fool's disclosure policy is outlined here.