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Investing That Pays Dividends

By James A. Anderson

In the current economy, companies are sharing more of their profits directly with shareholders. It might make sense to stake your claim.

Consider it a reward for weathering the Great Recession. Last year, corporations boosted dividends, €”the slice of their profits they share directly with investors, 45 percent over depressed 2009 levels. So far in 2011, the generosity hasn't slowed: Dividend payments by publicly traded companies rose almost 7 percent in the first quarter. Standard & Poor's estimates that 510 companies chose to increase their dividend, declare an extra distribution, or resume payments to shareholders in the first three months of 2011. That's up from about 400 during the same period in 2009.

The dividend comeback signals that the current recovery has replenished corporate coffers with enough cash to give back to shareholders. That's a comfort to analysts, who worry that rising inflation may dampen growth in equities. Others wonder how much stamina remains in the bull market, now in its third year.

For individual investors, while dividend stocks won't make your portfolio bulletproof, they can provide regular, dependable income at a time when market gains may stall. In fact, dividends make up 40 percent of the total return registered by the S&P 500 since 1920. Consider dividend payments cash in hand, €”another return on your stock market investment that can effectively hedge against inflation. "You might call investing in dividend-paying companies the automatic pilot approach to investing," says S&P Chief Investment Strategist Sam Stovall. "A dividend is a sum of money that essentially gets annuitized into your portfolio every year."

Dividends are more than management's thanks for your loyalty. As a bankable distribution of cash, they provide tangible returns that supplement the paper gains investors don't realize until they sell shares. For evidence, look no further than the period from January 1, 2000, through March 31, 2011. You'll remember it as a trying stretch, during which both the tech and real estate bubbles burst. Today, some call it the "lost decade" because the S&P 500 lost 10 percent in share price value over the period. Factor in dividend distributions, however, and the Index's return leaps to 11 percent.

Follow the Clues. It's important to consider just what dividends tell you about a company—and its prospects.

  • Dividend payers are typically large companies. It takes a substantial commitment to pay a quarterly dividend, regardless of the economic climate. The companies that can are big enough to absorb the shocks of an economic downturn. According to Standard & Poor's, 75 percent of large cap stocks pay a dividend, compared with 40 percent of the rest of the U.S. stock market.
  • Companies that pay dividends span a range of industries. Conventional wisdom once said financial companies and utilities pay, while tech firms don't. That has changed. The most dependable providers hail from industries ranging from consumer goods and health care to industrials and technology. So you're sure to find dividend payers in a sector you like.
  • Dividends offer insights on market share, management, and more. In fact, some professional investors use dividend payments as a way to monitor a company's operations: The brass has to feel good about their standing, market share, and long-term prospects to cut shareholders in on profits.

How to Invest. Investing in dividend-paying stocks may boost your portfolio's returns. Choosing wisely makes it possible to bring a stabilizing, regular increment of income to your portfolio.

  • Capitalize on their comeback. In early May, the S&P 500's dividend yield of 1.8 percent was a far cry from its historic average, 4.2 percent. That's because dividend yields fall when share prices rise. The market's 100 percent climb from March 2009 lows has put a dent in dividends as a percentage of share prices. Dividends also fell under the corporate axe in the aftermath of 2008's financial market collapse. The good news: They are rebounding, so it may be a good time to consider adding dividend payers to your portfolio.
  • Don't view all dividend payers equally. There's a relatively easy way to identify companies that have consistently increased dividends. S&P groups the elite together in a special index of "dividend aristocrats," a class of 60 companies with the largest dividend yields. Put together, they form a formidable group: In 2010, the aristocrats logged a 19.4 percent gain, compared to 15.1 percent for the S&P 500.

Dividend-paying stocks offer downside preservation, a hedge against inflation, and, perhaps most significantly, potential for more cash in your pocket.

The above content is provided for information purposes only. Opinions expressed in these articles are those of the author(s) and do not necessarily represent the opinions of BBVA Compass or any of its affiliates.

Investing involves risk including the potential loss of principal. No investment strategy can guarantee a profit or protect against loss in periods of declining values. The declaration and payment of dividends is subject to the discretion of an organization's Board of Directors and depends on various factors, including the organization's net income, financial condition, cash requirements, future prospects and other factors deemed relevant by the organization. The ability to pay dividends on common stock will depend upon, among other things, the organization's level of indebtedness at the time of the proposed dividend and whether the organization is in compliance with its then existing credit facilities.

Neither BBVA Compass, nor any of its affiliates, is providing tax or legal advice for your individual situation. You should always consult your individual tax or legal advisor about your personal tax situation.

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