July 2, 2013
For the first time in over a half century, the stock market now yields more than the bank. Thanks to the Fed's monetary stimulus, interest rates and bond yields have fallen to paltry levels, making dividend yields all the more attractive.
But while I'm a fan of juicy dividend yields myself, a word to the wise: You should never pick stocks based on just their dividend.
If you do, you could find yourself like shareholders of Garmin Ltd. (GRMN). This GPS expert boasts one of the highest yields in the Technical Instruments industry, but that didn't help matters when Garmin missed first-quarter earnings estimates in May. Shares retreated after the announcement, leaving yield seekers holding the bag. And things only got worse during the mid-June volatility that roiled the markets.
While high dividend yields can be attractive, that shouldn't be the only thing you're looking for when picking stocks. With some companies, a high dividend yield isn't always a good thing: Sometimes a high yield is actually caused by a drop in stock price.
Moving beyond the yield and current dividend payment, you want to look at the company as a whole and its history of dividend payments. Consistent and steadily increasing payments are a prime sign of a strong company that makes dividends work for you.
Take defense giant Lockheed Martin Co. (LMT). In the last five years, the company has nearly tripled its dividend! With such a steady dividend history, its small wonder that LTD has kept pace with the market for the past few years. (And just in the past quarter the stock has really taken off, jumping nearly 12%—beating the S&P 500 over four-to-one!)
And above all else, before buying any stock, you need to take a hard look at its fundamentals. You can do this by running your stocks through my Portfolio Grader tool. This tool screens stocks based on their profit potential, providing a "Fundamental Grade" that measures a company's health and a "Quantitative Grade" that indicates whether institutional investors are buying this stock.
To get you started, I've run the top 15 dividend stocks in the S&P 500 through Portfolio Grader:
|Ticker||Company||Dividend Yield||Quantitative Grade||Fundamental Grade||My Take|
|EXC||Exelon Corp.||4.0%||F||D||Strong Sell|
|FE||FirstEnergy Corp.||5.9%||F||D||Strong Sell|
|LMT||Lockheed Martin Corp.||4.2%||B||B||Buy|
|MO||Altria Group Inc.||5.0%||D||C||Sell|
|PBI||Pitney Bowes Inc.||5.1%||D||C||Sell|
|POM||Pepco Holdings Inc.||5.4%||D||D||Sell|
|RAI||Reynolds American Inc.||5.2%||D||B||Hold|
|TE||TECO Energy Inc.||5.1%||F||C||Sell|
Note that with the exception of LMT, each of the other stocks is a hold, a sell or even a strong sell! So it just goes to show that dividends alone won't ensure profits in this market.