You can build a wealth-compounding machine with dividend stocks that pay shareholders a portion of their profits. Want to use them to pay your living expenses? Good. Want to reinvest them to buy more shares of stock -- which pay more dividends? Great!
Picking dividend stocks for your portfolio can seem overwhelming because so many options exist. That's why I like to keep it simple and look at stellar companies with a track record of success.
My recent search landed me on Coca-Cola (KO) and Procter & Gamble (PG -0.78%). Here's why you can buy and hold these companies, probably forever.
1. The world's dominant beverage business
Coca-Cola is one of the world's most famous brands. At some point, you've probably had a glass, can, or bottle of Coca-Cola or one of its many relatives, like Diet Coke. But if that's not your thing, brands like Powerade, Dasani, Vitaminwater, Minute Maid, Gold Peak, and approximately 500 more fall under the company's umbrella, too.
The business model is simple yet effective. As the world's largest nonalcoholic-beverage company, its brands command prominent shelf space at virtually any point of sale it wants -- a grocery store, vending machine, or gas station.
There are some notable competitors like PepsiCo and Keurig Dr. Pepper, but the global market is highly fragmented, giving Coca-Cola a huge advantage in most situations.
It doesn't do its own bottling; instead, it manufactures the concentrated syrups and markets the brands. As a result, the business is very profitable, turning roughly $0.21 of every dollar into free cash flow that goes toward a legendary dividend.
The company has paid and raised its dividend for 61 consecutive years, and after all those increases, the dividend payout ratio is still manageable at 62%.
KO PE ratio (forward) data by YCharts.
Unfortunately, the stock is rarely cheap because the whole market knows how great a business it is. However, the market has recently begun selling off many dividend names, including Coca-Cola. The stock's forward price-to-earning (P/E) ratio of 20 is the lowest it's been in several years. Now might not be a bad time to consider adding it to your portfolio for the long haul.
2. A household conglomerate essential for its dividends
Procter & Gamble is a conglomerate that owns many brands, and you probably use at least one daily. For example, there's Tide laundry detergent, Charmin toilet paper, and Pampers diapers. They cover all manner of categories, including shampoos, soaps, paper products, deodorants, and more.
Like Coke, P&G dominates the aisles in your neighborhood store because its well-known brands give it leverage with retailers. And they're household necessities; a consumer isn't going to skip buying toothpaste if the economy slumps. The vast diversity of products also makes the business predictable because there's no one product collapse that will tank the company's sales.
So it's a wonderfully lucrative business. For every dollar of sales that comes in, $0.17 of free cash flow reaches P&G's pockets. These dependable income streams have made it an excellent dividend stock. The company has raised its payout annually for 67 consecutive years.
As with Coke, a long history of paying more in dividends hasn't strained P&G. The 65% payout ratio means the company could suffer a slump and still have enough to pay shareholders.
PG PE ratio (forward) data by YCharts.
The stock has hovered between $125 and $158 per share over the past 12 months, and the forward P/E is more than 22, near its lows over the past few years. Analysts believe the company's earnings will grow by 6% to 7% annually, so the stock arguably isn't cheap at a price/earnings-to-growth (PEG) ratio of 3.2.
But you're paying for quality. Procter & Gamble's track record attracts investor interest. Consider adding shares slowly and hope for further selling to give you a better deal. Once you own shares, you can likely forget about them and let compounding do its thing.
