7 Steps to Picking the Safest High-Yield Stocks
If you don’t have dividend stocks in your portfolio, you’re making a costly mistake.
Why? Because the best-performing stocks over the long haul are dividend stocks. Period.
Countless studies prove it, too. But don’t waste your time on Google trying to verify that claim. The evidence is right here.
As you can see, dividend payers – especially companies that consistently increase their dividends – trounce non-dividend paying stocks by a country mile.
So why do investors routinely shun dividend investing?
You see, roughly 30% of the companies in the S&P 500 cut or suspended their dividends in 2008 and 2009. As a result, investors missed out on $89 billon in dividend payments. Unsurprisingly, such hefty losses tend to sting, which impacts behavior.
But don’t be so influenced. It’s actually easy to find high-yield, dividend investments in this zero-yield world. And not only that, ones that are reliable and virtually immune to dividend cuts or suspensions.
How to Find Safe, High-Yield Investments
When you’re looking for the best dividend-yielding stocks, the simple answer might sound a bit paradoxical: Don’t chase yield.
This is because a high yield typically indicates that there’s a higher risk of the dividend being cut, or – even worse – being eliminated altogether. Instead, focus on companies with the following seven characteristics:
1. Simple Business: The fewer moving parts, the fewer things that can go wrong, thus sapping cash intended for dividend payments. So focus on companies with businesses that you understand, rather than massive corporations that have dozens of often puzzling segments. Hint: General Electric (NYSE: GE) does not qualify as simple business.
2. Steady Demand: After identifying companies with simple business models, the next step is to verify that there’s demand for the product(s). After all, a company needs a steady stream of cash so it can afford to pay dividends to shareholders. Stick to industries or sectors with recession-proof or recession-resistant demand (food, alcohol, tobacco, healthcare, etc.).
3. Cash Flow Positive: If a company isn’t generating cash each quarter, the only way to pay a dividend is by borrowing or tapping into cash reserves. Such practices aren’t sustainable over the long term – and the dividend will eventually be cut.
4. High Cash Balance: Speaking of cash… it’s still king! Especially when it comes to maintaining a dividend. Consider it insurance against any unexpected slowdowns. At a minimum, insist on enough cash to cover two quarter’s worth of dividends.
5. Minimal Need for Credit: Even now, securing credit is difficult. Accordingly, I recommend focusing on companies that don’t need to raise significant amounts of capital. That’s because when interest rates rise, so will their interest payments.
6. Earnings Buffer: Insist on a dividend payout ratio (annual dividends divided by annual net income) of 80% or less. This will provide ample wiggle room for the company to pay the dividend in the event of an unexpected slowdown.
7. Go With Dividend Growers: Everybody loves a raise and it’s no different when you’re investing in dividend stocks. I prefer companies that have increased their dividend for at least 10 years. Pulling off such a feat demonstrates management’s commitment to shareholders and underscores the strength of the underlying business.
It’s easy to find such companies, too. All you have to do is consult the handy-dandy list of companies included in the U.S. Broad Dividend Achievers™ Index.
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