How to Spot the Dow's Best Dividends

The Dow Jones Industrial Average is jam-packed with dividend stocks. But how do you find the best dividend plays on the Dow, among all this excellence?

Jun 17, 2014 at 2:00PM

Fool Flickr Pennies On Calendar
Those dividend pennies sure add up in the long run!

The Dow Jones Industrial Average (DJINDICES:^DJI) index is packed to the rafters with great dividend stocks. All 30 of the Dow's current members pay a dividend today, with the average yield hovering around 2.7%.

So the Dow makes a great starting point for dividend investors. But how is an income-hungry investor supposed to find the best Dow dividends? They can't all be top-shelf winners, right?

The most obvious answer might be to pick the Dow's juiciest dividend yields.

It's simple enouigh: Rank the 30 Dow stocks by their current yield, and skim the winners off the top. That usually leads you to the Dow's big telecom stocks, and today is no different: AT&T (NYSE:T) rules the roost with a 5.3% yield and Verizon Communications (NYSE:VZ) comes next at 4.3%. No other Dow stock has an effective yield north of 3.6% today.

But successful dividend investing is actually not quite that simple.

High yields today don't always translate into big returns in the long run. Let's compare the Dow's highest yielders to IBM (NYSE:IBM), which sports one of the fastest long-term dividend growth rates on the index today:

T Dividend Chart

T Dividend data by YCharts.

High yields might rest on low share prices rather than strong business performance. That's not exactly an ideal investment thesis for the long haul.

Income investors are far better served by strong cash flows and a demonstrated willingness to return lots of cash to shareholders. IBM does this almost to a fault. Verizon and AT&T treat dividend raises as a necessary evil -- a chore where "just the bare minimum" is good enough for everybody.

Personally, I would much rather buy IBM for its dividend powers than invest in AT&T's or Verizon's meager long-term payouts.

If the long-term dividend trends weren't reason enough, I would also argue that Verizon and AT&T are fighting tooth and nail to defend antiquated business practices, while business veteran IBM is knee-deep in yet another radical strategy shift in response to changing markets.

I would not be surprised to see IBM's dividend yield leap past both of the Dow telecoms in the next five years, with an even bigger total return gap over several decades. If you're looking for a quick dividend fix right now, AT&T and Verizon might work out fine, but IBM is the safer choice for the true long-term investor.

Spot the 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.

Anders Bylund has no position in any stocks mentioned. The Motley Fool owns shares of International Business Machines. 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.

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