In times like these, we're all trying to find safe investments that will protect us from today's markets. High-yielding stocks are an attractive alternative for many investors, especially since dividends play a major part in earning robust overall stock market returns. From 1926 to 2006, dividends accounted for 41% of total stock market performance.
OK, I get it, dividends are good
However, the lure of a high dividend yield can be dangerous, since that dividend may not be safe. Usually, the dividend yield increases because the stock price decreases. A decrease in price can be a sign of trouble within the company, potentially imperiling the payout. Therefore, investors need to examine the underlying business that supports the dividend.
We'll first use the Motley Fool CAPS screener to identify a few stocks with dividend yields between 5% and 10% that have been awarded four or the maximum five stars by the 115,000-plus member CAPS community . The highest-rated stocks in CAPS have had stellar records, so we'll start with those, then search among them for stocks with the greatest dividend stability:
|
Company |
CAPS rating |
Dividend yield |
Dividend payout ratio |
|---|---|---|---|
|
Altria (NYSE:MO) |
***** |
6.3% |
76% |
|
AT&T (NYSE:T) |
**** |
5.7% |
68% |
|
Duke Energy (NYSE:DUK) |
***** |
5.3% |
67% |
|
Pfizer (NYSE:PFE) |
**** |
6.7% |
92% |
|
Verizon (NYSE:VZ) |
**** |
5.9% |
83% |
Source: Motley Fool CAPS and Yahoo! Finance.
These stocks are not recommendations, of course -- just possible starting points for further research.
Pfizer
Sure, the stock looks cheap here, since it hasn't traded at so low a price in about 11 years. But is the dividend secure? I don't think so. Pfizer's 92% dividend payout ratio is double the industry average. In addition, with Lipitor coming off patent in 2011, Pfizer will lose most of the revenue associated with that $13 billion-per-year drug. Pfizer has been steadily growing its dividend over the past couple of years, but its net income in the trailing-12-month period is less than half of what it was for 2006. I'm not sure Pfizer can sustain its payout.
Altria
A 76% dividend payout ratio is OK for a cash machine like Altria, and it's right near the 75% payout ratio the company targeted in its latest 10-Q statement. In addition, Altria seems to have plenty of free cash flow to cover the dividend. Even though the total dividend paid out has dropped after the spinoff of Philip Morris International (NYSE:PM), the acquisition of US Tobacco (NYSE:UST) should counteract that to some extent. I think this one is pretty safe.
AT&T
AT&T is the world's largest telecommunications company by revenue, and the No. 1 U.S. provider of wireless, broadband, business, voice, and directory services. The company has achieved solid profit growth and double-digit EPS growth over the past several years, while generating strong cash flow. Its 68% payout ratio is a tad high relative to the industry, but I don’t see any reason at this point why the telecom giant can’t maintain the dividend.
Duke
Duke Energy has outperformed the S&P 500 for the past one-, three-, and five-year periods. Utilities are generally a recession-resistant business (people need their power, after all). With a history of paying dividends for 82 straight years, even though the payout ratio is high relative to utilities in general, it should be pretty safe.
Verizon
The company is competing with AT&T to be No. 1 in wireless. They also offer FiOS for phone, computer, and cable across the country. Although Verizon appears financially capable of maintaining the dividend for now, it seems contradictory that it would continue to pay out 83% of net income and half of free cash flow to shareholders while trying to grow bigger than a company like AT&T. Verizon may choose growth over dividends in the future.
Final thoughts
Investing in solid dividend-paying stocks in this environment is a smart thing to do. However, do your homework, and make sure you get companies that will maintain the dividend.
On Oct. 7, 2008, Fool co-founder David Gardner and his Motley Fool Pro team will invest $1 million in a portfolio designed to help you make money in any market. In the coming weeks, the team, relying heavily on proprietary CAPS "community intelligence" data, will establish long and short positions in a broad range of securities, including common stocks, publicly traded put and call options, and exchange-traded funds (ETFs). To learn more about Motley Fool Pro and to receive a private invitation to join, simply enter your email address in the box below.
