Diversify Without Sacrificing Your Dividends

6/13/2011


Experienced income investors may tell you that if you want dividends from your stocks, you should look at financials, utilities, telecommunications, and consumer staples, while expecting less from technology, health care, and energy.

They are half right.

As the table below shows, the average stock in the energy, health-care, and technology sectors yields no more than 1%, while most other groups average substantially higher yields. However, the large number of non-dividend-payers in the low-yielding sectors skews the averages lower.


MOST SECTORS SHARING THE WEALTH

As of May 31, 47% of the S&P 500 Index's 387 dividend-paying stocks had either raised or initiated their payouts this year. While the index's per-share dividend has declined over the last one and three years, seven sector indexes paid out more in dividends in 2010 than they paid in 2009. Given the spate of dividend hikes, the index's 2011 dividends are likely to be higher than 2010 payments.

Avg. Yield
Cap-
Weighted
Index Div.
Yield
(%)
Cap-Weighted Index
Per-Share Div. Growth
Through 2010
No. Of Div.
Increases or
Initiations
S&P 1500 Sector
All
Stocks
(%)
Dividend
Payers
Only
(%)
1
Year
(%)
3 Yrs.
(Annual.)
(%)
10 Yrs.
(Annual.)
(%)
Year-
To-
Date
% Of
Div.
Payers
Consumer
Discretionary
1.4
1.8
1.4
(28)
5
5
36
59
Consumer
Staples
2.5
2.6
2.9
11
8
9
21
54
Energy
1.0
1.3
1.7
3
8
7
11
33
Financials
1.7
2.0
1.5
(21)
(27)
3
41
55
Health Care
0.9
1.8
2.1
9
3
8
10
40
Industrials
1.8
1.9
2.0
(9)
(3)
6
25
45
Materials
1.6
1.7
1.9
7
(7)
4
12
41
Technology
0.8
1.7
1.0
9
9
22
15
44
Telecom
Services
4.2
6.8
5.0
3
6
3
0
0
Utilities
4.1
4.3
4.3
5
8
(16)
12
39
S&P 500 Index
1.6
2.1
1.9
(5)
(2)
5
183
47

Telecom and utilities do tend to pay the highest yields, with consumer staples No. 3 at 2.6%. However, when you consider only dividend-paying stocks, six sectors — consumer discretionary, financials, health care, industrials, technology, and materials — have average yields between 1.7% and 2.0%.

It may be tempting for investors seeking income to focus on the sectors with the highest yields, but such concentration represents a big risk. Diversified portfolios — ones that contain stocks from a variety of sectors — can provide more growth potential with less risk than portfolios loaded with stocks from the highest-yielding sectors.

In six of the 10 sectors that make up the S&P 500, the average stock is expected to grow per-share profits at an annual rate of at least 11% over the next five years. If you load up on only telecom, utility, and consumer-staples stocks because of their high yields, you'll miss out on all six of the fastest-growing sectors.

Spread your net more widely, and you have a better chance of capturing the profit growth needed to support both higher stock prices and dividend growth. In addition, a diversified portfolio is less susceptible to weakness in one part of the market — a lesson some owners of financial stocks learned at great cost in 2008 and early 2009.

Dividends are everywhere, as illustrated in the pie charts above. Consumer-staples stocks accounted for 16% of the S&P 500's dividends over the last 12 months, with the materials sector delivering less than 4%. The other eight sectors each accounted for between 7% and 13% of the dividends, suggesting that investors can find enough dividend-payers to create a diversified portfolio of high-quality stocks that will generate a solid income.


DIVIDENDS EVERY MONTH

All 20 of the A-rated stocks below either increased or initiated their dividend in the last year and seem likely to continue boosting the payout in the future. A ollar amounts of each stock would yield 2.3% and pay dividends every month. All 10 market sectors are represented, but no single sector accounts for more than 20% of the portfolio. Stocks recommended for purchase are presented in bold.
Dividend Growth
Company (Price; Ticker)
Div.
($)

Yield
(%)

1
Year
(%)
3 Yrs.
(Annual.)
(%)
10 Yrs.
(Annual.)
(%)
Quadrix
Overall
Score *
Sector
Dividends paid January, April, July, October
Comcast ($24; CMCSa)
0.45
1.9
19
22
NM
94
Cons. Discret.
Philip Morris Int'l
($68; PM)
2.56
3.8
10
NM
NM
88
Cons. Staples
Rogers Commun.
($38; RCI) e
1.49
3.9
18
15
NM
90
Telecom Svcs.
St. Jude Medical
($49; STJ)
0.84
1.7
NM
NM
NM
76
Health Care
Stryker ($59; SYK)
0.72
1.2
20
30
31
77
Health Care
Union Pacific
($101; UNP)
1.90
1.9
76
29
17
87
Industrials
Wal-Mart ($54; WMT)
1.46
2.7
21
15
18
88
Cons. Staples
Dividends paid February, May, August, November
Abbott Laboratories
($51; ABT)
1.92
3.7
9
10
9
90
Health Care
Ameriprise Fin'l
($56; AMP)
0.92
1.6
28
15
NM
87
Financials
Freeport-McMoRan
($50; FCX)
1.00
2.0
233
5
NM
97
Materials
J.P. Morgan Chase
($41; JPM)
1.00
2.5
400
(13)
(3)
82
Financials
Oracle ($32; ORCL)
0.24
0.8
20
NM
NM
94
Technology
Texas Instruments
($33; TXN)
0.52
1.6
8
9
20
76
Technology
Dividends paid March, June, September, December
Aflac ($45; AFL)
1.20
2.6
7
8
20
81
Financials
BlackRock ($190; BLK)
5.50
2.9
38
21
NM
97
Financials
CSX ($75; CSX)
1.44
1.9
50
26
9
93
Industrials
Energen ($59; EGN)
0.54
0.9
4
4
5
69
Utilities
Exxon Mobil ($80; XOM)
1.88
2.3
7
6
8
97
Energy
IBM ($164; IBM)
3.00
1.8
15
14
18
92
Technology
Intel ($22; INTC)
0.73
3.3
15
9
25
99
Technology
Portfolio Average
2.3
53
12
13
88
NM Not Meaningful because company didn't pay a dividend in the historical period.
* Quadrix scores are percentile ranks, with 100 the best.     e Dividend and yield estimated
.

The table above presents just such a portfolio, with the added benefit that investors will receive dividends every month. We review two of those dividend-payers in the following paragraphs:

J.P. Morgan Chase ($41; JPM) has restored its dividend to within 34% of what it paid prior to the financial crisis. The financial conglomerate is the only stock in our dividends-every-month portfolio with a recent dividend cut, but this year's 400% increase allows for a solid 2.5% yield, with the possibility of growth in the future. The current dividend represents about 25% of J.P. Morgan Chase's 2010 earnings, and the company plans to lift that payout to about 30% of earnings over time, in line with federal regulations.

The company remains dogged by litigation stemming from its role in the mortgage implosion and resulting foreclosure fiasco, concerns that have helped keep J.P. Morgan shares exceptionally cheap. More than half of the individual factors comprising J.P. Morgan's Value score rank near the top 20% of our research universe. The stock trades below its 10-year averages for price/book (30% discount), price/sales (6%), price/cash flow (40%), and enterprise ratio (28%).

Shares trade at just nine times trailing earnings, 42% below the 10-year average P/E ratio and a 39% discount to the average for diversified financial stocks in the S&P 1500 Index. If J.P. Morgan hits Wall Street's 2011 profit target of $4.92 per share (up 24%) and its trailing P/E ratio reverts to the 2010 average of 10, the stock would be worth $49. Shares stand to gain 9% if J.P. Morgan hits the 2011 estimate and its P/E simply holds at the current level. J.P. Morgan Chase is a Focus List Buy and a Long-Term Buy.


At a glance, Oracle ($32; ORCL) hardly seems like the type of value stock generally associated with income-oriented portfolios. It earns a middling Quadrix Value score of 55, and in May its shares reached their highest level in more than 10 years. But at 15 times trailing earnings, Oracle trades 26% below its five-year average P/E and 13% below the peer-group average. Oracle has rarely looked cheaper during the past decade.

The company began paying a dividend in 2009 and raised the quarterly payout 20% this year. Cash flow from operations rose 22% to $9.95 billion over the last year, well covering Oracle's $1 billion in dividend payments. With the indicated annual dividend of $0.24 per share representing only 12% of trailing earnings, further growth is likely.

The company's growth prospects remain bright as corporate spending on technology rebounds. Wall Street, taking its cue from management's bullishness, expects Oracle to report 12% higher sales and per-share earnings growth of 18% for the May quarter. For fiscal 2012 ending May, the consensus targets 9% higher revenue and 10% higher earnings per share. Oracle, yielding 0.8%, is a Focus List Buy and a Long-Term Buy.


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