While there are no sure bets in the stock market, companies that have a track record for paying and growing their dividends offer one of the best ways to generate passive income. When the market is regularly setting all-time highs, a 2% dividend yield may not seem like much. But when the market is going down, the funds generated by dividend payers can save investors from having to sell shares at an inconvenient time.
With that in mind, we asked some of our contributors which blue chip dividend stocks they saw as particularly strong buys now. They scanned the horizon and found three that had just raised their payouts: Emerson Electric (NYSE:EMR), Stanley Black and Decker (NYSE:SWK), and Caterpillar (NYSE:CAT).
65 years of rising dividends
Lee Samaha (Emerson Electric): Both of Emerson Electric's segments are in growth mode right now. Its automation solutions segment's (process, hybrid, and discrete automation) trailing three-month orders increased by 20% in September. In addition, orders for its commercial and residential solutions unit (a collection of climate technology, refrigeration, food quality, and heating businesses) were up 9%. As such, management's guidance for total underlying sales growth of 6% to 8% in 2022 looks conservative.
For its fiscal 2022 (which began Oct. 1), management's guidance calls for free cash flow (FCF) of $3.1 billion -- a figure large enough to cover the $1.2 billion dividend payout by 2.6 times. Everything points to a strong year of generating solid returns for shareholders.
Moreover, its valuation is attractive. Emerson's stock trades at just below 19 times forward FCF. That's reasonable for a company that is set to grow earnings at a double-digit percentage rate over the next few years.
There's reason to believe Emerson can grow over the longer term too. Its commercial and residential solutions business is positioned in attractive long-term markets. Meanwhile, with the price of oil above $80 a barrel and the economy reopening at a fast clip, there's no shortage of demand for investment in process automation right now. Moreover, its purchase of a majority stake in industrial software company Aspen Technology will be a game-changer for Emerson Electric.
Finally, the market has long fretted over Emerson's exposure to oil and natural gas upstream spending, but during the earnings call, CEO Lal Karsanbhai said he would "continue to divest upstream oil and gas hardware assets." In addition, upstream oil and gas companies only contribute 12% of Emerson's total revenue, and Kharsanbhai has plenty of FCF coming in that he can deploy to diversify the company's revenue streams. All told, the medium-term outlook is very positive, and management is taking the right approach to the long-term development of the business.
Tool up your portfolio for passive income with this Dividend King
Scott Levine (Stanley Black and Decker): While many may agree that variety is the spice of life, consistency may be the spice of a dividend investor's portfolio. A reliable dividend that peppers a portfolio with steady passive income is hardly something to sneeze at. Conversely, a high-yield distribution can be a siren song, enticing investors to buy shares and then disappointing them when the unsustainable payout gets cut.
Stanley Black and Decker, however, is about as reliable as they come. The company can be found in the rarefied air of the Dividend Kings, having raised its payouts for 54 consecutive years. It should come as little surprise, then, that the company in Q3 increased its quarterly return to shareholders again, from $0.70 a share to $0.79 a share. At current share prices, it now offers a 1.7% yield.
The company has excelled at growing its business since its inception before the Civil War, and management expects consistent growth in the years ahead, targeting long-term growth in both revenue and earnings per share in the range of 10% to 12%. In addition to generating organic growth, the company also pursues acquisitions like the two that it completed in the third quarter: MTD Holdings and Excel Industries. Management's skill at identifying acquisition opportunities such as these will help the company continue to reward its shareholders.
With shares of Stanley Black and Decker trading at about 16.4 times earnings, this blue chip dividend dynamo is in the bargain bin. Besides the fact that the stock is presently trading below its five-year average trailing earnings multiple of 23.7, it's also changing hands at a cheaper valuation than the current S&P 500 P/E ratio of 29.5.
Caterpillar's growing dividend adds stability to a cyclical stock
Daniel Foelber (Caterpillar): Despite the company's poor results last year, shares of Caterpillar stock outperformed the S&P 500 in 2020 thanks to optimistic projections about how it would fare in 2021 and beyond. Caterpillar's business is cyclical, and tends to ebb and flow to the rhythm of the broader economy. Economic recovery, a major infrastructure bill, and low interest rates are all tailwinds for companies like Caterpillar because they have the potential to accelerate GDP growth.
Although Caterpillar is still capable of staging a multiyear upswing, it has experienced some unexpected challenges, namely supply chain issues and higher costs. Despite these, its business is doing much better than last year, but its figures are still generally lower than they were in 2019.
However, the good news is that Caterpillar's Q3 results showed signs that the worst may be behind it. Its construction business is doing well even though commercial construction is still down. Demand is higher for raw materials, which benefits Caterpillar's mining business. Its energy and transportation business is thriving thanks to higher oil and natural gas prices, although lower capital expenditures mean that Caterpillar's cash-rich customers are less inclined to buy new equipment.
Unlike past oil and natural gas booms, this time, exploration and production companies, midstream pipeline and transportation companies, and the integrated oil majors are taking cautious approaches to spending to safeguard their balance sheets and focus on generating positive FCF. While Caterpillar's short-term results would likely benefit from higher customer spending, it's arguably better for it in the long term that the industries it serves are working on improving their financial health.
Despite its somewhat mediocre performance, Caterpillar deserves credit for consistently raising its dividend and buying back shares. During the Q3 earnings call, CEO Jim Umpleby highlighted the company's commitment to returning the majority of the FCF generated by its machinery, energy, and transportation (ME&T) unit to shareholders.
We completed $1.4 billion in share repurchases this quarter. We also returned about $600 million in dividends to shareholders, reflecting the 8% dividend increase we announced in June. We've paid a higher dividend annually for 27 consecutive years, and we remain proud of our status as a Dividend Aristocrat. We continue to expect to return substantially all of our ME&T free cash flow to shareholders over time through dividends and share repurchases.
The consistency of Caterpillar's dividend adds stability to the cyclical stock's investment thesis. Now that business is beginning to pick up, Caterpillar looks well-positioned for the years ahead.