Reinvesting your dividends is possibly one of the simplest ways to get rich with minimal effort.
In fact, the S&P 500 Total Return index currently stands at about 3,395 -- a full 80% higher than the standard S&P 500 index at current prices. On an annualized basis, the S&P 500 has returned 16.7% per annum during the past five years, while the S&P 500 Total Return index has returned 19%.
You don't need to be a hedge fund manager or billionaire to use this strategy. All you need to do is select a group of dependable dividend-paying stocks -- for example, ExxonMobil (NYSE:XOM), Altria (NYSE:MO), and American States Water (NYSE:AWR) -- sit back, and relax.
Bigger is not always better
In the world of dividend investing, the size of the payout is not the only consideration. Indeed, consider the high-yield mortgage real-estate investment trusts, or mREITs. Annaly Capital Management, for instance, currently offers a 10.6% dividend yield but has been forced to slash its payout three times during the past year.
On the other hand, both Exxon and Altria have steady dividend payout histories stretching back decades.
Low and stable
As the largest oil and gas company in the world, Exxon boasts unrivaled production. However, the company is not chasing growth like some of its peers; instead, the company is seeking stability to maintain its current level of output and safeguard investor returns.
Exxon has more projects coming on stream during 2014 than in any other year in its history. Yet these projects will only offset declining production from mature fields, as well as the loss of its oil concession in Abu Dhabi, which expired in January. As a result, Exxon's production is only expected to expand 3% from now until 2017.
As Exxon's production stabilizes during the next few years, it is reasonable to assume that the company's cash flow and shareholder returns will remain constant or grow in line with the price of oil.
At first glance, Exxon's dividend does not seem appealing, currently yielding 2.5% -- only slightly higher than the market average. However, Exxon is also buying back stock. In 2013, the company returned a total of $27 billion to investors via buybacks and dividends; on a per-share basis this works out to about $6.10 per share -- equivalent to a yield of 6.3%.
A larger-than-average dividend yield, long payout history, and strong business are the three most desired factors in any dividend stock. Altria meets all of these criteria.
You may be doubtful about this choice, as Altria is a tobacco company. However, the company's payout history stretches back 43 years, and it currently offers a 4.8% dividend yield. Moreover, although the majority of Altria's income comes from cigarette sales, the company also has a smokeless division, wine estates, and a 27% stake in SABMiller. These three bolt-ons give the company some diversification.
Altria's total return since 1995 is north of 2,200% with dividends reinvested -- nearly 2,000% ahead of the S&P 500.
This long-term outperformance really gets me excited about Altria's future.
The longest of all
A final example is American States Water, a company with one of the longest dividend-payout histories that you can buy into today.
American States has been paying out and raising its dividend for 58 consecutive years. The company has managed to maintain this payout growth because it is highly cash-generative, reporting an operating margin of around 25% for fiscal 2013. This wide margin, combined with the company's low requirements for capital spending and position within a fairly defensive industry means that American States has been able to churn out investor returns for more than half a century now.
Furthermore, American States has increased its dividend payout by 80% during the past 10 years; that's a compound annual growth rate of 6%, which is not spectacular but above inflation.
During this period, the company has only paid out an average of about 30% of its cash from operations in dividends. This has allowed the company to slowly increase its payout, building up trust with investors -- and it has plenty of headroom to keep raising its dividend for years to come, even if things turn against the company.
Reinvesting dividends can be a great way to improve your investing performance, although care needs to be take when selecting dividend stocks. Altria, ExxonMobil, and American States all look to be great dividend picks due to their robust cash flows, payout histories, and conservative dividend payout ratios.
Top dividend stocks for the next decade
The smartest investors know that dividend stocks simply crush their non-dividend-paying counterparts over the long term. That's beyond dispute. They also know that a well-constructed dividend portfolio creates wealth steadily, while still allowing you to sleep like a baby. Knowing how valuable such a portfolio might be, our top analysts put together a report on a group of high-yielding stocks that should be in any income investor's portfolio. To see our free report on these stocks, just click here now.
Rupert Hargreaves owns shares of Altria Group. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.