A recent article; “Income Investors Should be Buying Equities” by Paul Price on seekingalpha.com (a free provider of stock market opinion and analysis) notes: “It’s a topsy-turvy world right now, with short term interest rates near zero and even the 5 and 10-year treasuries paying peanuts.”
The picture is even grimmer when you take away 30% for combined federal and state taxes – the 5-year then comes down to 1.23% and the 10-year to 2.10%. Take away even 2.5% for inflation (after all, as the article points out, nobody believes their own cost of living has been flat to down as the government reports) and the 5 and 10-year bonds become clear losers in terms of buying power preservation on an after-tax and inflation-adjusted basis.
Given this scenario, what is an investor to do?
We’ve said it many times before, and this article reiterates the point; the solution is to defy conventional logic and buy stocks for income.
The article lists 14 stocks, from Verizon to Coca Cola and Merck to MacDonald’s, that yield an average of 4.18%, far outstripping the 10-year Treasury’s 2.9955% fixed rate return. Price notes that $100,000 in 5-year bonds will produce just $1,767.50 and in 10-year bonds just $2,995.50 in annual income right now. Compare that with $100,00 divided equally among the 14 listed stocks, which would provide $4,180 in yearly income at today’s rates!
Price notes that unlike fixed-rate T-bonds, the 14 companies have a history of increasing their payouts. In fact over the past decade they averaged a 240.86% cumulative increase.
Price concludes, you can either lock in one of the worst rates in history, virtually guaranteeing a big loss in after-tax, after inflation by owning Treasuries OR; you can opt for a diversified portfolio of blue chip companies that pay you more income to start and are likely to increase that amount year after year.
We believe a portfolio of dividend stocks is likely to well outperform the S&P 500 Index and returns from Treasuries over a 20 year period. We would argue that a dividend paying portfolio also has limited downside risk as the companies able to pay dividends generally have reached at, or near, their long term growth expectations, are generally more stabilized, under leveraged, and more secure investments than growth companies.
According to our analysis, a $1,000 principal investment in a dividend paying stock, with a 3% annual dividend yield growing at 5% per year, and modest 5% annual stock price appreciation, would grow to over $4,000 (342%) at the end of 20 years. This return compares to just over 200% for Treasuries, and a 20 year actual historical return of 191% for the S&P 500. Don’t forget, as the chart indicates, the S&P 500 has been incredibly volatile over the past 20 years as well.
CAIM’s advice? We would recommend high quality dividend paying stocks.
Copyright 2010, CAIM LLC