Out of all the investments you can make, dividend-paying stocks have a reputation as conservative, aging companies with boring businesses and little future upside. But if you look closely, you can find a group of stocks that pay dividends, yet offer plenty of future potential.
In this month's new issue of Rule Your Retirement, Foolish fund expert Amanda Kish studies several mutual funds that invest specifically in dividend-paying stocks. For investors seeking the optimal mix of current income and future growth, dividend investing makes a lot of sense. Yet not all dividend-focused funds are exactly the same -- and some cater to younger investors, by making sure they have the best chance to their investment grow over time.
Breaking down stereotypes
When you're young, you might believe that having your investments pay dividends is as much a hassle as a benefit. If you don't actually need the income, quarterly dividends leave you with a choice of headaches: Either you automatically reinvest those payments, which can create a tax-accounting nightmare when it finally comes time for you to sell your shares; or you let those cash payouts lie dormant in your brokerage account until you have enough to make a significant investment in something else.
Moreover, if you own dividend-paying stocks in a taxable account, you'll owe some of that money to the IRS -- whether or not you reinvest it in additional shares. By contrast, with stocks that don't pay dividends, your profits come solely from what happens with the share price. That's a whole lot simpler, and if you're really looking for strong growth from a stock, then mature, stagnant companies probably aren't what you're most interested in anyway -- even if they are cranking out some serious cash. Just take a look at these stocks:
|
Stock |
Dividend Yield |
3-Year EPS Annualized Growth Rate |
|---|---|---|
|
BP (NYSE: BP) |
5.7% |
(6.5%) |
|
DuPont (NYSE: DD) |
4.3% |
(18.8%) |
|
Southern Company (NYSE: SO) |
5.2% |
(0.6%) |
|
Waste Management (NYSE: WM) |
3.6% |
(1.5%) |
Source: Yahoo! Finance, Motley Fool CAPS.
As you can see, plenty of high-yielding stocks have seen their earnings shrink recently. That may be fine if you're not looking for growth, but some investors prefer to stick with stocks that give them the best of both worlds.
Think small
In order to find those dual-purpose stocks, Amanda focuses on one fund that targets small-cap dividend-paying stocks. For the most part, you don't expect to see smaller companies pay dividends. During the early part of their existence, small companies tend to plow most of their profits back into their business, in order to maximize growth opportunities. Since most small companies have business ideas that they think will generate attractive returns on capital, they keep profits in-house, and reinvest them into those new projects.
In contrast, Amanda's fund idea has uncovered several stocks that manage to reward shareholders with regular payouts, despite their modest size. It's clear that with cash-generating businesses like Hormel Foods (NYSE: HRL), Buckle (NYSE: BKE), and Family Dollar (NYSE: FDO) within its portfolio, the fund is looking beyond today's current leaders, to seek out stocks with big future potential.
Also, it's important to understand that small stocks don't always make the biggest payouts; the fund's yield is just 1%. Yet from a performance standpoint, the fund is anything but small. Despite having significant exposure to the hard-hit financial industry, the fund is up more than 6% annually over the past five years, and has seen gains of 59% since April 2009. Whether you'd rather not settle for bigger dividend payers with negligible growth, or you'd prefer greater diversification in your stock portfolio, this fund is worth considering.
Learn more
Smart investors know quite well that the power of dividend stocks goes beyond simply getting a check in the mail every quarter. The right investments can combine healthy income with gains that will give investors of all ages the total returns they crave.
To learn more about Amanda's fund, and the other great funds she's discovered, try Rule Your Retirement free for 30 days. There's no obligation, but the information you get there could open up a world of investments for you to consider. So don't wait -- start planning your financial future today!
