Income tax season can be a stressful time as you true-up what you owe and what you've already paid to Uncle Sam throughout the year. If there's a bright spot to it, it's that over 57 million taxpayers are already expecting refunds for the year, and the average refund is over $3,200. That's a lot of money, and invested well in income-producing stocks, it can potentially turn a one-time boost into a long-term income stream.
With that in mind, we asked three experienced investors to pick a dividend stock that they think might have what it takes to provide that kind of sustained return over time for its investors. They chose Target (TGT -0.70%), 3M (MMM -1.05%), and Prudential Financial (PRU 0.63%). Read on to find out why and decide for yourself whether one or more of them is worthy to receive a chunk of the money you're getting back from Uncle Sam.
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Target is sustaining the momentum it gained at the pandemic onset
Parkev Tatevosian (Target): My top dividend stock to buy right now is Target. The company has thrived since the pandemic onset, and management has seemingly made all the suitable investments in building an infrastructure that can power sales for the longer term. Sales are flowing to profits, increasing its ability to pay and grow its dividend.
In the last decade, Target has grown its dividend per share from $1.32 to $3.16. That means investors who have bought and held Target stock over that time have seen their dividend payments more than double. A similar outcome is possible for today's purchasers of Target. Note that dividends are paid out from earnings; dividend payments are unsustainable without sufficient profits.
One metric that measures dividend sustainability is the dividend payout ratio. With dividends on the numerator and earnings on the denominator, it shows what percentage of a company's profits are paid out in dividends. The lower the rate, the more room the company has to pay and increase dividends. Target's payout ratio is a very healthy 22%.
Target has grown earnings per share (EPS) by 35.8% and 63.2% in the last two years. Buoyed by the pandemic, Target's growth in EPS is bound to decelerate as the world evolves out of the pandemic. Still, management enhanced the business by building a robust fulfillment network. These options are wildly popular with shoppers. Target's newly developed same-day fulfillment options have driven $6 billion in incremental sales for the retailer. One feature in particular, drive-up, which allows shoppers to buy online and have their order delivered to their car in a Target parking lot, grew 70% in 2021 after growing 600% in 2020.
If you're expecting a tax refund, Target stock can be an excellent way to allocate that money.
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A King of American industry
Eric Volkman (3M): If you're going to pick a dividend stock, you'd do well to choose one with a big, shiny crown on its head.
The Dividend Kings are a very small and select group of S&P 500 stocks that have raised their shareholder payouts at least once for a minimum of 50 years running. Note that this is one tier above the already-elite Dividend Aristocrats, for which the requirement is a "mere" 25 years in a row.
Of the 39 stocks in the exclusive grouping, 3M is a king among Kings -- it has done the minimum once-annual raise for 64 years. Yes, its dividend raise streak is nearly ready to start taking Social Security.
3M manages to keep its cash flow high because of its hard-to-beat combination of specialty, high-margin industrial goods and popular consumer products (like its now-legendary creation, the Post-it note). It's a sprawling company with its fingers in a great many pies throughout the industrial sector, and as such it can earn a buck from nearly any successful and/or trendy segment.
One small recent example of this is face masks, the mandatory fashion accessory/health necessity ubiquitous during the coronavirus pandemic. Demand for the N95 masks -- considered a step up from ordinary, unfiltered masks -- was so strong that 3M's sales in the category alone reached into the six-figure-dollar mark.
Face masks, in fact, are one reason 3M's stock has fallen from investor favor lately (another is global supply chain difficulties, but these have been covered extensively so I won't dive into the subject here). The softening of demand for masks, in accord with the apparent fading of the coronavirus pandemic, should depress the annual organic sales growth rate by around 2% in and of itself.
So at a recent closing price of under $150 per share, 3M is now teasing five-year lows. That, however, has pushed the stock's dividend yield to a tempting price. At the moment, it's just under 4%, putting it well above not only a great many fellow blue chip stocks, but also nearly at the top of the Dividend Kings pile.
Meanwhile, 3M's near-term fundamentals probably won't enjoy that coronavirus-fueled growth they saw in 2021. Still, the company is anticipating modest improvement on both the top and bottom lines for this year.
Which is fine for dividend stock fans. After all, that ever-increasing and generous payout is anchored by a business that's set to keep growing -- likely not at spectacular rates, but regardless on a long-term, upward slant. That's ideal for investors who like being paid regularly and well by a veteran company with a long track record of success.
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Consider this rock-solid insurance titan
Chuck Saletta (Prudential Financial): If you are getting a refund on your taxes, it's often a sign that you overpaid your taxes throughout the prior year and are getting that overpayment back. That can be a fairly prudent move if your income is variable and you don't know exactly what your tax burden will be in advance. After all, the IRS expects you to pay close to what you'll truly owe in a timely manner if you want to avoid penalties.
Aiming not just to be close enough to true-up penalty free in April, but rather to get a refund is an approach that gives you a high degree of certainty that you'll stay in the IRS's good graces. It may not offer you the strongest return on investment available to you, but it certainly beats scrambling to pay not only what you owed but also the added-on costs for not paying enough in advance.
In a similar vein, considering Prudential Financial as a potential investment for your refund money may not give you the highest long term return on your investment, but it could beat several alternatives. With a yield around 4.1%, a quarterly dividend that recently increased a nickel, and a payout ratio of less than a quarter of its earnings, there is a lot to love about Prudential Financial's dividend.
When you recognize that its shares trade for well below the company's book value, you also see that there's legitimate value in Prudential Financial's stock. The combination of its dividend and its value gives investors a decent reason to believe their money could see solid returns over the long haul.
Still, it's important to note that the company's shares trade at a low valuation because the business isn't expected to grow all that fast over the next few years. As a result, investors shouldn't expect a quick rebound in its stock, but rather the potential for a decent risk-adjusted return over time. That's the sort of profile you might expect from a company that has built its reputation on being rock-solid, rather than as a highflier. Fitting for its name, it's a prudent choice to consider for the money you're getting back from overpaying Uncle Sam.
Put your money to work for you
If you're getting a decent refund, it's likely providing you with a great opportunity to put a big chunk of money to work for you that you hadn't strictly needed to cover your costs when you earned that cash. Even better, as dividend stocks, Target, 3M, and Prudential Financial should be able to provide you even more income over time. Those opportunities don't come by everyday, so take advantage of this one while you can. Whether you invest in them or in something else, putting that money to work for you in this way can be a great way to build your portfolio's income stream for your future.
