If you're like me, you want to build wealth for life by beating the market. You want to stay ahead of the masses who stash their money in savings accounts (gasp!), bonds, and even index funds. You certainly don't want to lose to them. There's no feeling worse than knowing that you'd be doing better by doing nothing.
But you take on the risk of losing to the market if you stash substantial portions of your hard-earned dollars in non-dividend payers, underperformers, or, worst of all, non-dividend-paying underperformers. Because when your investment dollars stagnate, even the lowly T-bill will take you to the woodshed.
The greatest growth is fueled by dividends
Master investors like former Vanguard Windsor Fund manager John Neff knew that a solid dividend payer is a lifelong investment. During his 32 years at the helm, Neff beat the market by more than three percentage points each year on the back of dividends, earning an extra $175,000 on every $5,000 invested in his fund. That is a true dividend dynasty. And you can build one, too.
Building your dividend dynasty
Wal-Mart has been one of the market's best-performing stocks, up nearly 100,000% since its IPO. And it's been paying and increasing its dividend ever since the company declared its first dividend in 1974. That's proof positive that a dividend doesn't hamper growth.
Another great long-term investment has been United Technologies (NYSE:UTX), which has paid a dividend every year since 1936 and has increased it nearly 13% per year since 1995. Over the past 20 years, United Technologies has posted 15.2% compound annual growth. Another substantial outperformer, Lowe's (NYSE:LOW), started paying a dividend as soon as it went public in 1961. The company boasts a 20-year compound annual growth rate (CAGR) of 21.4%. And then there's Merrill Lynch (NYSE:MER), a company with 70 years of history that started paying a dividend as soon as it came public in 1971. That's a 30-year track record, and in the past 10 years, Merrill Lynch has raised its dividend more than 11% annually. The company has another 19.8% market-beating trailing 20-year CAGR. Not only did the dividends in these examples put money into shareholders' pockets, but they also indicated that management was confident in the future and that their business models were generating substantial amounts of cash.
These are good companies now, but 20 years ago, they could have been the foundation of your dividend dynasty -- a source of financial security for you and your family. Microsoft CFO John Connors expressed it best when he said, "Declaring a dividend demonstrates the board's confidence in the company's long-term growth opportunities and financial strength."
The secret to success
It may shock you to hear that the best stocks are not always those with the best products, the biggest revenues, or even the largest profits. The best investment opportunities are those run by managers who want to create maximum shareholder value. You'll find amazing winners among unknown payers such as Income Investor recommendation ServiceMaster (NYSE:SVM). The boring old operation of TruGreen and Terminix is up more than 21% per year since 1990. Compare that performance with those of such big-name non-payers as Sybase (NYSE:SY), Macromedia (NASDAQ:MACR), or Compuware (NASDAQ:CPWR) -- three tech companies that simply aren't turning cash into significant long-term shareholder value.
Great management can come from anywhere, and it builds a company with rising earnings per share, limited dilution, manageable debt, and a consistent ability to deploy capital and use its assets effectively. That leads to the richest treasure of all: considerable amounts of free cash flow, which allow a company to reward shareholders with a growing dividend.
As I see it, the dividend is the key to it all.
The cornerstones of tomorrow's dynasty
The stocks of tomorrow's dividend dynasty aren't just the ones paying substantial yields. If that were the case, everybody and his or her broker would be building one. Tomorrow's dividend dynasties are both dividend and capital gains growth opportunities. That means they're:
- Underfollowed
- Undervalued
- Underappreciated
- Committed to creating shareholder value
To build your own dynasty, search for these traits and don't ignore boring industries -- utilities, insurers, consumer products, banks -- or even foreign countries. That's how Mathew Emmert does it, and his picks are besting the market by three percentage points even in this fairly bumpy economic environment.
To view Mathew's nearly 50 favorite income stocks, enjoy a free 30-day trial of Motley Fool Income Investor. And if you click here right now, you'll be able to access this month's two new picks when they are released at 4:00 p.m. EST today. There is no obligation to subscribe.
This article was originally published on June 29, 2005. It has been updated.
Tim Hanson does not own shares of any company mentioned. Microsoft is a Motley Fool Inside Value recommendation. At the Fool, no writer is too cool for disclosure ... and Tim's pretty darn cool.
