The Best Dividend Stocks of the Decade

It's true that past performance is not indicative of future returns, but that doesn't mean we can't learn from it. By identifying key traits of investments that have worked well, we can narrow down our search for great stocks by seeking those traits in current opportunities.

Looking back at which stocks succeeded over the 10 years that ended in 2009 is a particularly intriguing and unique exercise, given that the S&P 500 was down over that period. Indeed, it was the first time the index had finished a calendar decade with a negative total return.

As with any decade, it had its share of big winners like Apple (Nasdaq: AAPL) and Valero Energy (NYSE: VLO) and surprising losers like AIG (NYSE: AIG). Still, most investors who put money to work 10 years ago have been disappointed with their returns (the disappointment larger the more they invested in Pets.com).

The horse is dead already
Yet for every "new" economy stock that got clobbered after the dot-com bubble burst, there were plenty of "old" economy stocks that were ripe for the taking in December 1999, when investors' attention was focused on Web clicks rather than cash-flow generation.

Given that the old-economy industries -- energy, industrials, commodities, railroads -- were largely in the mature phase of their business cycles by 1999, many of them paid dividends to boot. This made these undervalued, out-of-style stocks even more attractive as long-term investments.

To illustrate, I've gone back and identified the best dividend-paying stocks of the past decade, based on the following criteria:

• The company had to pay dividends each year,
• It was not allowed to cut or suspend the dividend at any point,
• And it must be U.S.-based, trading on a major U.S. exchange.

I've further subdivided the results by 1999 market capitalization: large cap, mid cap, and small cap.

The envelope, please
Here are the top five large-cap dividend payers of the past decade ...

... the top five mid caps ...

... and the top five small caps.

All data provided by Capital IQ.

If you ever find yourself thinking that dividend-paying stocks can't possibly be growth stocks, remember these tables. This isn't an aberration, either. In fact, as a 2003 study by Robert Arnott and Clifford Asness showed, there's a link between higher dividend payouts and higher earnings growth. Why? One reason is that when company management teams are forced to dole out a portion of earnings each year as dividends, they have to be more deliberate in choosing value-creating projects and have less chance to "empire-build" with shareholder cash.

Time to reflect
Now that you know the best dividend stocks of the past decade, let's consider which ones might be the best in the next decade. If this exercise taught us anything, it's this: Start your search in out-of-favor industries and then find those companies that have enough cash flow to fund their payouts for years to come. Today, a good place to start is (gasp!) banks, which are certainly out of favor among investors at the moment.

While many investors are rightly concerned about commercial real estate exposure, increased government scrutiny, and dividend cuts in the industry last year, there are a number of select banks that have weathered the recession well and have maintained their dividend payouts. One name to start your search is Bank of Hawaii -- it has a conservative investment portfolio to guard against rising interest rates and a sturdy Tier 1 capital ratio of 14.9% (by comparison, Bank of America's (NYSE: BAC) Tier 1 capital ratio is 10.4%). Oh, and it also yields 4%.

None of this is to say you should aggressively buy bank stocks or that there isn't downside risk if the economy takes another turn for the worse, but if you want to have a chance of owning one of the best dividend stocks of the next decade, banks are a good place to start.

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Fool analyst Todd Wenning buys his athletic shoes from New Balance because it's the only domestic manufacturer still making shoes in the U.S. He does not own shares of any company mentioned. Precision Castparts and Apple are Motley Fool Stock Advisor picks. Alliance Resource Partners and Southern are Motley Fool Income Investor choices. The Fool owns shares of XTO Energy. The Fool's disclosure policy is American-made.