Dividend payers deserve a berth in any long-term stock portfolio. But seemingly attractive dividend yields are not always as fetching as they may appear. Let's see which companies in the banking industry offer the most promising dividends.
Yields and growth rates and payout ratios -- oh, my!
Before we get to those companies, though, you should understand just why you'd want to own dividend payers. These stocks can contribute a huge chunk of growth to your portfolio in good times and bolster it during market downturns.
As my colleague Matt Koppenheffer has noted: "Between 2000 and 2009, the average dividend-adjusted return on stocks with market caps above $5 billion and a trailing yield of 2.5% or better was a whopping 114%. Compare that to a 19% drop for the S&P 500."
When hunting for promising dividend payers, unsophisticated investors will often just look for the highest yields they can find. But extremely steep dividend yields can be precarious, and even solid ones are vulnerable to dividend cuts.
When evaluating a company's attractiveness in terms of its dividend, it's important to examine at least three factors:
- The current yield.
- The dividend growth.
- The payout ratio.
If a company has a middling dividend yield but a history of increasing its payment substantially from year to year, it deserves extra consideration. A $3 dividend can become $7.80 in 10 years, if it grows at 10% annually. (It will top $20 after 20 years.) Thus, a 3% yield today may be more attractive than a 4% one, if the 3% company is rapidly increasing that dividend.
Next, consider the company's payout ratio, which reflects what percentage of income the company is spending on its dividend. In general, the lower the number, the better. A low payout ratio means there's plenty of room for generous dividend increases. It also means that much of the company's income remains in its hands, giving it a lot of flexibility. That money can fund the business' expansion, pay off debt, buy back shares, or even buy other companies. A steep payout ratio reflects little flexibility for the company, less room for dividend growth, and a stronger chance that if the company falls on hard times, it will have to reduce its dividend.
Peering into banks
I've compiled some of the major dividend-paying players in the banking industry, ranked according to their dividend yields.
5-Year Average Annual Dividend Growth Rate
1-Year Dividend Growth Rate
PNC Financial Services
|Bank of New York Mellon||2.1%||(15%)||0%||17%|
|Fifth Third Bancorp||1.9%||(43%)||125%||25%|
Bank of America
|Sun Trust Banks||0.2%||(55%)||(69%)||49%|
Source: Capital IQ, a division of Standard & Poor's.
NM = Not meaningful because of negative earnings.
I usually like to look at long-term dividend growth rates, but the banking industry has suffered so much upheaval in recent years that those growth rates are negative, and sharply so, for many big banks. The industry seems to be getting its act together, though, and many dividends are rising. Thus, I added a column to reflect recent dividend increases.
It's heartening to see so many banks increasing their payouts in huge ways, but don't count on seeing such heady growth rates continue for long. They are unsustainable in the long run.
As I see it, among the companies listed in the table, M&T Bank deserves consideration as it offers some solid income now and a good chance of strong dividend growth in the future. It also has a positive growth rate over the past five years, unlike most. JPMorgan Chase, US Bancorp, and Fifth Third, and Wells Fargo are also worth a look, as they sport significant yields, seem to be ramping their dividends back up quickly, and have lots of room for growth.
Of course, as with all stocks, you'll want to look into more than just a company's dividend situation before making a purchase decision. Still, these stocks' compelling dividends make them great places to start your search, particularly if you're excited by the prospects for this industry. Remember, too, that you may find even more attractive dividends elsewhere, such as in packaged consumer goods or oil refining.
Do your portfolio a favor. Don't ignore the growth you can gain from powerful dividend payers.
To get more ideas for great dividend-paying stocks, read about" 13 High-Yielding Stocks to Buy Today ."
Longtime Fool contributor Selena Maranjian owns shares of JPMorgan Chase, but she holds no other position in any company mentioned. Check out her holdings and a short bio. The Motley Fool owns shares of JPMorgan Chase, Wells Fargo, and Bank of America, has opened a short position on Bank of America, and has created a ratio put spread position on Wells Fargo. Try any of our Foolish newsletter services free for 30 days. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.