|February 27, 2015
My 5 Criteria For Finding Reliable
By Nathan Slaughter
There are currently 14,003 publically-traded securities on U.S. exchanges. Of those, there are 2,181 stocks currently paying a dividend.
Now, any knucklehead with a home computer can generate a list of the market's highest-yielding stocks in five minutes, but that's no way to find a good investment. Investing is not as simple as buying anything with a double-digit yield.
Last week in Daily Dividends, I warned against blindly buying these super-aggressive yielders because "nine times out of 10, a stock yielding more than 15% is likely in big trouble."
But today, I will reveal how I find reliable, healthy dividend-paying stocks and why they are essential to building long-term wealth.
Every security I recommend to readers is put through an analytical boot camp before I even consider mentioning it. I must be sure that a high yield isn't a trap in disguise.
I start off with a large pool of growing companies yielding at least 5%. Then I run them through my "dividend optimizer" model to make sure they have all these key traits necessary for a steady and lasting income stream:
1. A long history of improving earnings. In general, the longer a firm has been profitable, the more likely it is to deliver steady returns in the coming years.
2. Consistent and growing dividend payments. I want to see steadily increasing dividends with no declines or missed payments.
3. Strong cash flows. Since you can't pay dividends without cash, I need to find companies that are generating above average amounts of cash every year.
4. Strong projected growth. Growing firms are more likely to be able to boost their dividends in the future.
5. A sustainable payout ratio. Firms occasionally pay out 100% or more of their earnings to shareholders. They can't do this for long without cutting their dividend. I avoid unsustainable dividend payouts.
The dividend-payers that I recommend in my High-Yield Investing premium advisory offer the most compelling risk-reward trade-off you can find. These securities provide a smooth ride while producing market-beating returns, instead of heart-stopping peaks and plunges. Bottom line, they are far less volatile.
If you think about it, it's one of the few free lunches in investing: You can get better returns and lower risk just by purchasing dividend-paying stocks. So, if you want to keep your money out of long-term losers like T-bills or CDs and put it to work in tireless investments that will never stop making you money, then High-Yield Investing might be just for you.
You see, it's not the specific level of yield that matters to me -- although it's a great feeling to pocket 10% a year in cash. What really counts is that the companies are actually paying them. Dividends are a sign of financial strength; of a real business making real profits.
Dividends require executives to use capital efficiently. Such practices send a clear message that management is treating shareholders right by paying them the profits they deserve as co-owners of the business.
What's more, a steady stream of dividends indicates that a company keeps straight books. You can hide a lot of bad news with tricky accounting, but you can't fake dividends.
The only thing better than a generous dividend is a generous and growing dividend. And there's only one way to consistently raise dividends: by growing cash flow.
Any company that can do that year after year will create a near-miraculous pile of money for you. Here's what I mean...
Altria (NYSE: MO), which most investors dismiss as a stodgy company, is a perfect example of this phenomenon. There's nothing fancy about making wine and cigarettes. But with its high dividends and years of 15%-to-20% growth, Altria has thrown off some of the best long-term returns of any investment of the past two decades.
While $10,000 invested in the S&P 500 in mid-1988 has grown into a substantial $78,677, that same $10,000 put into Altria exploded into $499,176. You can attribute the bulk of that remarkable 50-fold gain to Altria's decades-long record of high and rising dividends.
And believe it or not, these Altria investors incurred 22% less risk than the market during their 26-year ride.
To be fair, the Altria story is a particularly strong example of the miracle of compounded dividends. But it's far from unique. You can find similar results from any number of steady, but unspectacular, stocks with long-term records of high and rising dividends.
Let me give you a more recent example. In my February issue of High-Yield Investing, I recommended purchasing shares of a master-limited partnership (MLP) that owns thousands of miles of oil and gas pipelines, along with 11 natural gas processing facilities.
Despite a current rut in commodities prices, I was drawn to this firm due to its long-term take-or-pay contracts, which means customers pay to reserve transportation or storage space regardless of whether it's used or not.
This structure equates to predictable, reliable cash flows. And that reliability has led to increasing dividend payouts in 41 of the last 43 quarters, distributing $8.9 billion in total dividends since 2004. But that still leaves the company enough cash on hand to maintain its payouts if profits ever do slide.
Finding a company like this by picking one of the 2,181 stocks dividend payers out of a hat would be near impossible. But with the criteria I outlined above, you could find hidden gems like Altria -- or the most recent addition to my High-Yield Investing portfolio -- with relative ease.
Next week, I'm going to tell you about a little-known world of companies that the mainstream financial media isn't telling you about. These stocks pay regular (and growing) dividends to shareholders, but they actually pay even more to investors through "hidden" dividend payments. Again, you won't hear about this in the traditional financial media, so you won't want to miss out on how to find these "hidden high-yielders."
In the meantime, I urge you to check out my latest research report, which goes into more depth about how to put high-yield stocks to work for you today. To do so, click here.
Chief Investment Strategist