In case you’re wondering, yes, dividend-paying stocks are still a must for today’s investor.
With Dow Jones Industrials, the S&P 500, and the Wilshire 5000 Total Market Index flat on the year, dividend-paying stocks continue to be a portfolio necessity.
What has developed this year is market leadership from the NASDAQ 100; a group of large-cap technology stocks with one very big problem—overvaluation.
While there are some great names among this group of highly capitalized companies, most are expensively priced and a portfolio exclusively made up of these stocks is highly vulnerable.
Dividend-Paying Stocks to Benefit from Earnings Acceleration
Of the many themes evident in corporate reporting so far this year, a great number of brand name corporations not only confirmed existing 2015 full-year guidance, but are also forecasting much better business conditions next year.
This is also apparent in Wall Street sales and earnings estimates, which, for many companies, are expected to be more robust than this year’s performance.
On top of this, balance sheets among large-cap companies are still in very good condition, padded by large cash positions and a low cost of capital.
What this means for equity investors is earnings velocity in the face of genuine, if not modest sales growth. With a slight uptick in generally accepted accounting principles (GAAP) sales in 2016 over 2015, earnings should accelerate at a brisk pace.
Given current information, this is why there’s real potential for the stock market to advance going into next year as institutional investors bet on earnings velocity, which isn’t present so far this year.
It’s Worked the Last Six Years
During the financial crisis when the stock market tanked, large corporations experienced their own operational emergency. Just like individual investors, they witnessed their share prices disintegrate in a lack of market confidence and, accordingly, hunkered down into a strategy of self-preservation.
As a result, capital expenditures on new plant, equipment, and employees nosedived and cash balances swelled. Instead of investing (or risking) new business operations, companies returned excess capital in the form of higher dividends and bought back their own shares to pay for them.
It worked, as investors chased earnings stability and quarterly income. Solid dividend-paying stocks like Johnson & Johnson (NYSE/JNJ), 3M Company (NYSE/MMM), Union Pacific Corporation (NYSE/UNP), Nike, Inc. (NYSE/NKE) and Pepsico, Inc. (NYSE/PEP) accelerated swiftly on the stock market. (See “6 Best Dividend-Paying Stocks to Watch in this Market.”)
And they can do so again in an uncertain world, even in the face of rising interest rates and a relatively strong U.S. dollar.
This is still a skittish market where investment risk is high and earnings growth is lackluster. The fact that most of the stock market is flat on the year is, in my view, an accomplishment in itself, as weak earnings should have produced a well-deserved sell-off.
This is still an equity market guided by monetary policy. This market is now ready for rising short-term rates, as well as the continued effect of currency translation for multinationals.
As mentioned, both corporate and Wall Street outlooks continue to predict improved business conditions for U.S. corporations in 2016. Accordingly, the prospect for rising dividends and large share repurchases remains positive—even with a few quarter-point rate increases.
The NASDAQ 100 may be providing equity market leadership currently, but I still view the best risk-adjusted investment buck as better off with quality dividend-paying stocks in a world where current business growth remains elusive.