7 Dividend Stocks for a Bear Market

Merrill Lynch says we're in a recession. Unemployment is at a four-year high, but nonetheless, some investors will come out on top. I'll get around to showing you what academia says is the smart move now -- and give you seven stocks to check out -- but let's back up for a moment and start with this important question:

Will your portfolio take a nosedive?

Probably, yes, it will
BusinessWeek noted several months ago that Standard & Poor's found that its market-proxy S&P 500 index declined an average of 21% in past recessions.

So you should just get out of stocks, right?

That's much harder -- and less wise -- than it seems: Academic studies have shown that timing the market doesn't work. Stocks don't price in news in a consistent, predictable manner, which means investors tend to be worse off for guessing when to get in and out of stocks. There are better moves than attempting to time the market.

Dividends dominate downturns
If a recession is coming, you can take your licks, take a gamble, or turn to an academically proven safer place: dividend stocks.

Dividend investing itself is a frighteningly powerful force: Wharton professor Jeremy Siegel calculated that from 1872 to 2003 -- a period encompassing a lot of recessions -- a full 97% of the market's return came from reinvesting dividends. Just 3% came from capital gain on the original principal. I pursue dividend stocks in my Motley Fool Income Investor service for this simple truth: Dividend stocks are the smart place to be at all times.

Even in a recession? Dividend stocks are especially the place to be in a recession, according to research from academics Kathleen Fuller and Michael Goldstein. In their paper "Do Dividends Matter More in Declining Markets?" the duo found that when the overall market declines, dividend stocks outperform non-dividend-paying stocks by an additional 1% to 1.5% per month!

Moreover -- and if nothing else has gotten your attention, this will -- Fuller and Goldstein found that dividend stocks outperform with less risk. Better returns, less risk, and strong performance in a recession. Can we do any better than that with dividend stocks?

Actually, we can.

Investing overseas is not a requirement for successful investing in my book -- because so many domestic companies cull their revenues from abroad anyhow -- but it's a great, smart move that I believe all investors should make. And when you go overseas for dividends, magic happens.

SG Equity Research divided European stocks into five brackets according to dividend yield. Societe Generale researchers found that from 1985 to 2007, stocks in the top 20% by yield returned more than 17.5% annually, whereas the lowest-yielding bracket returned closer to 6% annually [insert video game failure music here]. Simple study, simple lesson: It pays to dig the high payers.

Where can we find the high payers?

Since I'm looking all the time for Income Investor, I'll start you off with some below from a screen on Capital IQ, an institutional software package. All have yields greater than 3%, have raised their dividends in the last year (because a payout hike is a special sign of strength), and sport at least some revenue growth. These aren't necessarily recommendations, but they are interesting starting points for further research.

Domestic dividend divas

Flamboyant foreign firepower

Income Investor subscribers know the comfort of beating the market -- by eight percentage points at last count. What's more: Subscribers have access to a full quiver of more than 70 tracked recommendations. If you'd like to take a look, a special guest pass is available through this link.

This article was first published Feb. 1, 2008. It has been updated.

James Early owns no stocks mentioned in this article. AllianceBernstein, Dow Chemical, and VF are Motley Fool Income Investor recommendations. Allied Irish Banks is a Motley Fool Global Gains selection. The Fool owns shares of Allied Irish Banks and has a bootylicious disclosure policy.