Wednesday, December 17, 2014

What dividend stocks would I buy if I were just starting out as an income investor?

I have been investing in dividend growth stocks and discussing dividend growth stocks on this site since early 2008. I have learned that dividend investors need to be flexible, and constantly be on the lookout for attractive investments.

This is because companies from different sectors are attractive at different times. In addition, there are many companies within a sector that could have strikingly different fundamentals and valuations. It is very rare that the whole market and all sectors are cheap at the same time, like they were in 2008 – 2009. For someone who invests a little every month however, I need to find cheap stocks with attractive economics and good prospects all the time. I do not believe in keeping too much cash in my brokerage account, and waiting for the perfect opportunity that might or might not materialize. I would much rather have the capital work for me and start its compounding process right away.

I usually start with a list of dividend growth stocks like the dividend champions, and then narrow down based on my entry criteria. I usually notice that many of the most attractive companies are from a single sector or sectors. I then look at each company that meet my entry screen, and delve further into trends in revenue, expense, earnings, returns and dividends over the preceding decade. I also read annual reports and analyst reports to gain an understanding of the company and its inner workings.

The typical dividend stocks I purchased since 2008 included the likes of Colgate-Palmolive (CL and Kimberly Clark (KMB) up until 2012. Over the past two years however, I have been hard pressed to find good ideas among the typical suspects of the preceding 5 years. As a result, I have been looking for other income investments.

Right now, the best values I could find are in Energy sector.  As I mentioned before however, I want to be diversified across time, industries, and not pile everything at once in one sector or company. Safety of capital is important to me. I also find a few consumer staples that are cheap, although not as many as in 2012. I also identified a few other good stocks, with favorable business prospects from other sectors below:

Ticker
Name
Yrs Div Gro
10 yr DG
P/E
Yield
Analysis
(ACN)
Accenture
9
     23.10
     17.00
       2.50
(AFL)
AFLAC Inc.
32
     16.82
       9.40
       2.60
(BAX)
Baxter International Inc.
8
     12.43
     14.70
       2.90
(CB)
Chubb Corp.
32
       9.24
     13.60
       1.90
(COP)
ConocoPhillips
14
     15.70
     14.20
       4.60
(CVX)
Chevron Corp.
27
     10.55
     12.50
       4.10
(DEO)
Diageo plc
15
       5.88
     17.80
       3.00
(ETN)
Eaton Corp. plc
5
     13.83
     14.00
       2.90
(GIS)
General Mills
11
       9.95
     18.20
       3.20
(IBM)
International Business Machines
19
     19.37
       9.60
       2.70
(JNJ)
Johnson & Johnson
52
     10.84
     17.50
       2.60
(K)
Kellogg Company
10
       5.95
     16.80
       3.00
(KMB)
Kimberly-Clark Corp.
43
       9.16
     19.70
       3.00
(MCD)
McDonald's Corp.
39
     22.80
     18.30
       3.80
(PEP)
PepsiCo Inc.
42
     13.71
     20.60
       2.70
(PM)
Philip Morris International
7
     11.70
     16.70
       4.70
(RSG)
Republic Services Inc.
12
     37.48
     19.90
       2.90
(UL)
Unilever
19
       6.10
     19.60
       3.50
(UTX)
United Technologies
21
     14.48
     16.40
       2.10
(XOM)
ExxonMobil Corp.
32
       9.64
     14.00
       3.10

I have not included real estate investment trusts or master limited partnerships, because those are a little bit more challenging to research from the standpoint of a beginner investor.

That being said, I am not envious of the investor who starts their dividend investing journey today. It is much more challenging to find quality companies selling at attractive valuations today, than it was 7 years ago. If someone were putting a set amount of cash to work every single month for several years however, the math should work well in their favor due to the fact that intrinsic valuations rise over time as companies earn more and thus pay more dividends. The power of dividends to grow over time, and for those dividends to be reinvested into more dividend producing investments should not be underestimated. In addition, if we get the bear market in stocks that everyone has been waiting for, the beginner investor would be able to deploy their cash at much better entry prices.

However, if the investor has a lump-sum to invest, the best idea might be to spread purchases over the next 12 - 24 months, especially if they are relatively new to the world of dividend investing. The importance of quality in selecting investments and the need for continuous education cannot be underestimated. To me, a quality company is the one which manages to have recurring revenues and earnings, which tend to increase over time and do that without much lumpy-ness. To achieve that, a company needs to have strong competitive advantages such as strong brands, advantages of scale or location, being a cost leader, and/or selling a unique product that commands pricing power. Check this article on wide-moat companies for more information.

Full Disclosure: I have a position in all companies mentioned above

Relevant Articles:

Seven wide-moat dividends stocks to consider
Five Metrics of Successful Dividend Companies
How to create a bulletproof dividend portfolio
Why Sustainable Dividends Matter
Dividend Growth Investing is a Perfect Strategy for Young Investors

10 comments:

  1. Hi,

    Thanks for a great blog!

    How is your view on IBM at current levels?

    ReplyDelete
  2. Just as a data point, Vanguard's 500 Index (admiral) just reported 4th qtr dividend. The change in dividends in CY 2014 from 2013 is +12.29%, handily outpacing inflation. I am so pleased with this. The yield using the total of 2014's dividends and yesterday's NAV is 1.92%, which is probably well below a dividend growth portfolio. I am also pleased with this as I am a taxable investor and must consider the tax effects. It's not what you earn...it's what you keep.

    I really enjoy your blog and read every post.

    ReplyDelete
  3. Fantastic list. They're all pretty solid dividend payers. Even shares such as Diageo and Unilever, which have lower average growth rates than the many of the rest would still be decent to invest in, as they're increasing their dividends above current levels of inflation.

    ReplyDelete
  4. My personal favorite today is WFC. Its one of Buffets biggest holdings and with a PE(12.93) Payout(32%) 5 Year DGR (22%) and starting yield of 2.6% its one I will continue to purchase.

    ReplyDelete
  5. This is a timely post since I'm considering starting a new SEP-IRA for myself for the 2014 tax year. I've not been saving for a long time prior to this. If I max out my contribution for the year (I work for myself), I might just use Motif to buy all 20 of those companies (or a similar list) with equal weights for a single commission. Then moving forward as I invest more monthly, I'd try to find the best values available per month (using a more traditional broker). But at least I'd have some diversification from day one.

    ReplyDelete
  6. Any thoughts about Shell (RDSB)?

    ReplyDelete
  7. Great list. All these stocks are safe bets!
    Best wishes,
    CZD.

    ReplyDelete
  8. Great list! I don't think a new investor could go wrong selecting one, two, five, or all the stocks on the list. In fact, many of the stocks on this list are on my watch list. I didn't realize the P/E ratios were that low for some of the stocks. I have some money to put into the market, so maybe it might be time to finally remove the stocks from my watch list and add them to my portfolio.

    Thanks for putting the list together.

    Bert, One of the Dividend Diplomats

    ReplyDelete
  9. Excellent list. One industry I would add for consideration offers the widest moat of any I know- railroads!!! There are only 7 major players across the North American continent, and they operate as virtual monopolies, with little overlap in service areas.

    Investors can throw a dart and not go wrong, though my favorites are UNP, NSC and CNI. For dividend growth consider that CNI has averaged 16% annualized dividend growth for the past 18 years!!! Coupled with 4 stock splits since 1995 during which a single share has now grown to 12 shares and that eye-popping dividend growth rate is compounded even more.

    CNI is the lone transcontinental railroad in North America and enjoys the distinction of serving 3 coasts- the atlantic, pacific and gulf coasts.

    When a better entry price presents itself, I plan to initiate a position in KSU. It offers the lowest dividend yield, but the dividend is in its infancy, thus offering the opportunity to get on board for the long ride.

    My guess railroads don’t garner more love from dividend investors is they can’t see past the current yields, and perhaps recall the nightmarish memories of the railroad industry from 20 years ago. Deregulation and consolidation have streamlined the industry, which is poised for a nice long run in the coming decades.

    ReplyDelete
  10. One company that meets NONE of the criteria yet I believe merits consideration for someone just starting out now- in today's market- defies most dividend growth logic..... Apple!

    I know it's a Tech company. And it's dividend is only a couple of years old, but my gosh they earn approximately $800 million a week in profit!!!! Think about that and compare it to every other company in the typical dividend portfolio.

    Apple has outgrown its cult culture from the 1980's and 1990's and today is a mainstream company that continues to change how the world operates.

    Tech is usually a no-no for dividend investors because of the boom-bust history of the sector. But if IBM is in a dividend portfolio (and its in mine), then Apple deserves at least another look. I own Apple as well. The facts are, IBM's earnings have been flat for years, while Apples have grown exponentially.

    $800 million a week in profits is a nice cushion for dividend growth from where I sit.

    ReplyDelete

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