The wealth-building power of compound interest will never cease to amaze me. It's a story of patience and attention to detail, where small, short-term differences add up to massive divergence over decades. And in the end, the biggest winners don't always deliver the fattest share-price returns.
Today's case in point is Merck (NYSE:MRK). The pharmaceutical giant's quarterly dividend payout was stuck at $0.38 per share for many years until it started inching up again in 2012. At the same time, Merck shares went on a long upward run that ended up decreasing your dividend yields despite the higher payouts.
So far, this looks like a terrible stock for income investors. Merck's dividend yield is shrinking, and even the renewed payout growth remains anemic. Why bother?
Here's why: Merck's dividend was always generous. It doesn't take much dividend growth or rising yields to make a big difference when you're starting from a high base level.
Even now, at the end of the yield-reduction you saw in that last chart, Merck offers the third-richest yield among the 30 dividend-payers of the Dow Jones Industrial Average (DJINDICES:^DJI). At 3.7%, it's nearly tied for third place with troubled chip titan Intel (NASDAQ:INTC), whose yield is enriched by the past year's 9% share-price slide. Investors are worried about the death of the PC and Intel's limited involvement in the new mobile-computing era.
Merck matches that yield despite a 23% higher share price, which acts as a headwind in this case.
Intel is a relative newcomer to the high-yield game, but Merck has plenty of shareholder-enriching history behind it. With the highly anticipated Baby Boomer retirement wave on the horizon, I wouldn't be surprised to see Merck juicing its payouts with rising cash flows in coming years.
Now, back to the long-term patience we talked about earlier. It may be a wise move to lock in your base price today so you can enjoy the potential dividend increases to their full potential later on. To take a historical example, you could have bought Merck shares for $16.34 apiece 10 years ago. That was good for a 3.4% yield at the time -- roughly comparable to today's 3.7% dividend return.
Just sitting on your shares and collecting dividend checks would have given you $15.26 in cash since then -- nearly enough to cover the cost of your original shares. The effective yield on your original shares would be a stellar 10.5% right now.
But wait -- there's more!
Reinvesting each payment into more Merck stock would have turned a -23% straight-up share-price return into a 24% total return. Stretch your investment period back another 10 years, and the DRIP payments would have nearly tripled your returns on a Dow-crushing 400% tour de force.
Merck is a dividend powerhouse in disguise, even without a generous payout-boosting program. Look ahead to the changing health-care market in the next 10 or 20 years, and Merck stock could be a wealth generator to build your retirement portfolio around.
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