Attention Dividend Investor: Learn What Makes Dividend Stocks Great
So you want to be a superstar dividend investor? Before we jump right into the dividend aristocrats, let’s first understand what it is you as a dividend investor like about dividend stocks, what is it you want? After we determine that we can begin to achieve your goals as a dividend investor. Let’s play a quick game. I want you to think about your best dividend stock ever. Perhaps it’s a stock you own right now? Maybe it’s a stock you owned in the past? If you’ve never owned a dividend stock…that’s fine, just think about one that you might like to own.
Got it? Okay. Let’s go.
Now let’s list some reasons that you like this dividend stock in particular:
You consider this stock to be very stable and reliable
It has a dividend yield greater than 2%
Your stock has never had a dividend cut
It has previously raised its dividend or is likely to do so in the future
How many of those four questions did you say yes to? As a dividend investor, you are probably looking for the same thing as thousands of others, stable but growing cash flows that offer a healthy dividend, while minimizing risk. You want to earn dividend income year in and year out, and you want it to keep growing. That’s smart!
As a dividend investor, you should check out our Dividend Aristocrats List, which highlights 50 dividend stocks that check each box, its a good place to start finding great stocks that you can hold for decades. But its important to understand why dividend stocks make this list, why is it that some companies can continue to raise dividends year after year, pay good yields, and never cut their dividends? There are some core reasons, and understanding them will make you a better dividend investor.
So what makes a good dividend stock? The types of businesses that produce steady cash flows that a dividend investor is looking for tend to have similar attributes. We can use these factors as a checklist to begin our investment research:
They are leaders in their industries
They have moats that prevent new entrants
Their industry is growing at GDP growth rates or higher
They can earn money at any point in the business cycle
Can you think of any businesses that might fit these criteria? Businesses with well-known brands such as Coca Cola and MacDonald’s certainly fit the bill. Let’s do a quick analysis on Coca Cola, as a starting point.
Is it a leader in its industry? At 36% market share of the beverage market I would say yes. While Pepsi is a close second at 20% they are still have nearly twice the market share, and 3 times that of the next competitor.
Do they have a moat that prevents new entrants? Coca-Cola’s brand has a lot of value, in fact according to Interbrands the value of the moat is $73 Billion. Almost everyone in the world knows what a Coke is, and most have tried it. That level of branding is very hard to disrupt, not to mention $4 Billion per year of marketing spending, which has enabled Coca-Cola stand the test of time.
Is the industry is growing at GDP growth rate or higher? Yes, the beverage industry is growing by about 4% annually, which is higher than GDP growth. While some segments are growing faster than others, CocaCola has been able to adapt and hold market share in new segments, such as Energy Drinks. A market leader in a growing industry helps underpin earnings and therefore dividends.
They can earn money at any point in the business cycle? Even during the global financial crisis CocaCola still managed to grow revenues, only in 2009 did it see a small pull-back, but nothing to be concerned about. This resiliency to recessions is a key trait to persistent dividend stocks that you can
build a portfolio around.
When you package all these factors together like Coke has done, the results are very impressive. CocaCola has managed to pay money to any dividend investor who held it for more than 25 years. Not only did it consistently pay dividends, it actually raised the dividend every years. I’m a dividend investor and that sounds really good to me, how about you?
Of course there aren’t many companies that have been as consistent as Coke has been. But there might be more than you think…
Our Dividend Aristocrats List highlights 50 companies that have had similar results; and they all demonstrate the similar characteristics to those listed above. Each one of these stocks has paid higher dividends every year for at least 25 years, each is a high quality business, each has a large moat, and each has proven itself through multiple business cycles, not only maintaining the dividend but even increasing them during recessions.
Now take a look at the Dividend Aristocrats List, how many of these companies do you recognize? I would bet quite a few of them. After all, each company has probably been around for longer than you have.
The Dividend Aristocrats list is broken into sectors to show the dividend investor what industry the majority of the company’s business operates in. As seen above, the majority of stocks are in Consumer Staples, Materials, Consumer Discretionary, Financials, Health Care, and Industrials. But what don’t you see?
1. Commodity companies. Because commodity companies are cyclical and tend to cut dividends during troughs. They aren’t able to make money in all business environments.
2. Information technology companies. IT companies and even Telecom are relatively new industries. You also find technology based companies being displaced much easily and quickly when new technologies come along. Their moats are not big enough.
3. Utility companies. While utility companies tend to be very stable which we like to see, this stability is great for paying a stable dividend but not for paying an increasing dividend.
I’ve also been enjoying this book and recommend putting it on your xmas wishlist. This is a second addition to a classic book from the 1980’s on Dividend investing, but it still rings true, and it’s been updated for current times. The book focuses on using dividend yield to identify value in blue chip stocks. Our dividend aristocrats list has done a lot of the heavy lifting, but this book can still help you think about ways to pick individual stocks.