If you are somebody that wants to earn a steady income through dividend distributions, you wouldn’t be alone. The general argument against dividend stocks is that they generate steady income in an inflationary market, so the value of receipts continues to depreciate. But let’s face it. Most of us draw a salary/wage of some kind, which is more or less fixed, according to the agreement with the company we work for. And we aren’t about to do away with that, are we?
While opportunity is a good thing, it comes with additional risk. If we’re early in the investment business, we would be willing to take some risk. But the more mature we get, the fewer the number of years left for us to invest, the more we’re likely to want some steady income. Even for growth investors, it’s generally a good idea to dedicate a certain percentage of your portfolio to dividend stocks.
But how would you choose a dividend stock? What makes these stocks special?
See the goal of every dividend investor is to ensure a steady flow of income, or in other words, to minimize the chances of interruption in the dividend flow. That means, the stocks you choose should ideally be
mature companies with well-established business models that have stood the test of time as well as competitive pressure. Any of the big brand companies like P&G, Cisco, Caterpillar, etc. would satisfy this criterion.
Second, it goes without saying that these companies should be
fundamentally sound. There shouldn’t be any insurmountable legal hassle, or other headwind on the horizon. Moreover, they should be generating steady revenue, earnings and cash flow (because only if companies make money can they distribute it). Obviously, large mature companies will generate a considerable amount of cash at a more or less steady pace.
Another thing that’s preferable is if they have a
history of paying dividends. If a big brand company starts paying dividend, we may have a certain degree of confidence that this dividend stream will continue. However, many of us aren’t able to buy these companies at their prevailing market prices. Moreover, there may be other reasons why they may not be recommended at any given time. Therefore, this is an important point to keep in mind. If a company has a history of consistently paying dividends, it’s very likely that these payments will continue.
To make doubly certain that the payments will continue, it also pays to consider the
future growth outlook. There are a couple of ways to do this. One would be to do your own homework studying the company’s historical financial statements and management commentary. This is highly recommended. You can supplement this with the growth outlook provided by brokers. While brokers may not estimate much far out for most companies, the number may still be available in the case of some companies. So it’s worth considering.
All these factors will still give you a fairly long list. And it can still be a complicated task choosing winners from this list. But it will become easier once you consider the
valuation. If you overpay for a dividend stock, the return on your investment will immediately be lower. As a pointer, you can use the Zacks Style Score system, which provides a Value grade for each stock. If the grade is A or B, there’s a good chance the shares are good for the picking. To supplement, also compare its valuation on some metric of your liking (price/earnings, or P/E is a standard one) with that of the industry to which it belongs, as well as to the S&P 500. Also compare with its own performance over the past year.
By also ensuring that all your picks have a
Zacks #1 (Strong Buy) or #2 (Buy) rating, you further increase your chances of success.
Now let’s see some examples:
American International Group, Inc. ( AIG Quick Quote AIG - Free Report)
American International is a large cap company, operating an insurance business since 1919.
Although impacted to a certain extent by the pandemic, its earnings and cash flows have grown through most of the past five years.
It has been paying a dividend for more than 20 years although there have been variations in the payout depending on business conditions. Its current dividend yields 2.29%.
It is expected to grow 10.0% in the next 3-5 years.
The stock carries a Value Score of A. Its P/E of 7.94X is trading at a 7.8% discount to the multi-line insurance industry to which it belongs. It is also trading at a 58.3% discount to the S&P 500.
Bridgestone Corporation ( BRDCY Quick Quote BRDCY - Free Report)
Bridgestone manufactures and sells tires and rubber products. The earnings and cash flow trends of this company are encouraging.
Additionally, it has been paying a dividend for more than 20 years although here too, we see some variations in the payout. Its current dividend yields 2.33%.
Analysts expect the company to grow 9.48% in the long term.
The shares carry a Zacks Rank #1 and Value Score A.
Bridgestone shares trade at a 10.9% discount to the industry and a 46% discount to the S&P 500.
Ford Motor Company ( F Quick Quote F - Free Report)
Ford needs no introduction. The auto maker’s earnings and cash flows have improved a lot since the pandemic, although they remain below pre-pandemic levels.
The company has been paying a dividend for a very long time. Its current dividend is very attractive, offering a 4.64% yield.
Although not as exciting as the above two, Ford’s 6.24% long-term growth estimate is nothing to scoff at.
The shares carry a Zacks Rank #1 and Value Score A. They trade at a 77.4% discount to the industry and a 58.5% discount to the S&P 500.
Unum Group ( UNM Quick Quote UNM - Free Report)
Insurance company Unum has recovered strongly from the pandemic, generating much improved earnings and cash flow.
Similar to the other three, Unum has been paying a dividend for more than 20 years. Its current dividend yields 2.93%. Dividend payments have been increasing in recent years.
The company is expected to grow its earnings 8.39% in the long term.
The shares carry a Zacks Rank #1 ad Value Score A. UNM shares trade at a 39.7% discount to the industry and a 68.3% discount to the S&P 500. They also trade at a discount to their median value over the past year.
Veolia Environnement SA ( VEOEY Quick Quote VEOEY - Free Report)
Water, waste and energy management solutions provider Veolia is seeing very strong revenue growth in the last five years although its earnings have moved around a bit. As a result, its cash flows have also been strong.
The company has been paying a dividend for more than 10 years. Its current dividend yields 3.03%.
The long-term growth outlook of 11.69% is encouraging.
The shares carry a Zacks Rank #1 and Value Score A. At 11.08X P/E, Veolia shares are trading at a 32.4% discount to the industry and a 41.8% discount to the S&P 500.
One-Month Price Performance Image Source: Zacks Investment Research