Portfolio Protection Step #4
By Nancy Zambell
Editor, Investment Digest and Dividend Digest
Adding dividend-paying stocks to your portfolio helps you increase your gains from appreciation and can also boost your returns in a down market cycle. This is a crucial key to a well-balanced portfolio—the fourth step in my article, “5 Steps to Protect your Portfolio.”
Many newbie investors and younger folks often neglect this step, as they are focused on gleaning the maximum returns from their portfolios, which generally means buying lots of high-growth stocks.
However, what goes up also comes down, and when the market cycle turns bearish—or even sideways—owning a few dividend stocks can turn a losing portfolio into a winning one.
I can’t really blame investors for thinking that stocks that pay dividends are old, stodgy companies, because that’s the way it used to be. But in today’s world, more and more companies are paying dividends to entice and reward their investors—even tech companies that wouldn’t have been caught dead paying dividends 10 years ago!
In 2013, there were 2,895 dividend rate increases, up from 2,887 in 2012. And one more advantage that most investors are not aware of: Over the past 30 years, stocks that pay dividends have returned an average of 10.3% compared to the 7.6% gains from non-dividend paying equities. See what I mean about portfolio protection?
There are more than 3,000 U.S. dividend-paying stocks to choose from, with the highest yields generally found in the telecommunications, utilities and consumer staples sectors, which S&P reports averaged 2013 yields of 4.6%, 3.9% and 2.5%, respectively.
And you can also find plenty of companies who pay double-digit dividends.
But before you go chasing the highest yields, you should know that really high yields have two characteristics that investors need to fear:
* The yields can fall really fast, when interest rates or economic conditions change, as sometimes occurs with mortgage Real Estate Investment Trusts (REIT), for example.
* The highest-yielding companies often come with significant fundamental risks, and that’s why they reward investors with large payouts. Some energy and mining partnerships are good examples of speculative investments that may pay significant dividends.
That doesn’t mean you can’t put high-yielders in your portfolio. It just means you’ll need to keep a close eye on them to ensure you sell them before the yields radically change—which they most likely will.
If you think of extremely high-yielding stocks the same way you might consider a “hot growth” stock—pretty neat for the short-term, but don’t fall in love with it in the long run—you should be able to manage a couple in your portfolio, reaping the rewards of the high yields, at least for awhile.
But there are thousands of stocks that pay 2%, 3%, or even 4%—middle-of-the-road payouts—that would be a tremendous asset to your investment portfolio. And many of those are solid, fundamentally-strong businesses that you can add to your portfolio and not worry too much about how temporary economic changes may affect them.
Remember, dividends can substantially add to your portfolio gains—as well as helping to mitigate losses in non-dividend paying stocks, should the market suffer a downturn.
March 2014
