Stock investors have surely enjoyed the Trump rally -- the fast-rising market that has seen all the major indexes hit new highs since the real estate mogul’s Nov. 8 victory. The critical issue investors now confront is how to prepare for what comes next -- what to do when the music stops?
The answer for some savvy investors: Go back to a reliable, if old-fashioned, defensive strategy of buying attractively priced, high-quality dividend stocks.
Dividend-paying stocks have always been popular, but now the discipline of playing it safe and protecting your capital has become more urgent. In fact, dividend-paying stocks have a lot to like under any circumstances.
“For one thing, the returns of dividend-paying stocks tend to be less volatile and more predictable: When more of the total return comes from dividend payments, investors don’t need to rely as much on price appreciation to get a reasonable return,” said Karen Wallace, a senior editor at Morningstar, in a recent report.
She pointed out that managements of companies paying dividends are often quite disciplined because they want to continue making such payments to attract investors. So they strive to have conservative balance sheets and focus on core, cash-generating businesses.
Through its Morningstar Dividend Yield Focus Index, Wallace’s firm searches for high-yield stocks of companies that are financially healthy enough to sustain and increase their dividend. “They’re companies that we think have competitive advantages (rated by Morningstar as wide-moat companies) that will allow them to continue to earn above-average profits and sustain their dividends for 20 to 30 years,” said Wallace.
The index makes sure the companies fit the requirements of Morningstar’s “Distance to Default Ratio,” a proprietary metric that uses market information and accounting data to determine how likely a company is to default on its liabilities.
Three such stocks that meet these rigid requirements while providing high dividend yields are Pfizer (PFE), Tesoro (TSO) and Federated Investors (FII). They’re among the “10 Cheap High-Quality Dividend Payers” that Morningstar considers attractively valued stocks.
Pfizer, one of the world’s largest pharmaceutical companies, is attractively valued on its fundamentals, so the added fillip of a dividend yield of 3.7 percent is a welcome bonus for shareholders. CFRA Research noted in a recent report that Pfizer’s drug portfolio is unmatched in terms of breadth and depth in the global drug market.
With Pfizer currently trading at $31 a share, CFRA has a price target of $38, reflecting the drugmaker’s “prominent position in the global pharmaceutical market, which affords important competitive operating and financial advantages.”
Morningstar equity analyst and sector director Damien Conover said Pfizer’s large size gives it significant competitive advantages and that its “unmatched heft, combined with a diverse portfolio of patent-protected drugs has helped Pfizer build a wide economic moat.”
Tesoro, whose stock provides a dividend yield of 2.49 percent, “is well on its way of becoming one of the better-positioned petroleum refiners in the challenging California market,” said Allen Good, senior analyst at Morningstar. The company’s efforts to expand its marketing channels, he said, should allow it to increase sales volumes and run its refineries at higher levels of capacity utilization, which is a key advantage in that often-oversupplied market.
Federated Investors, an asset management company, provides a dividend yield of 3.68 percent. It devotes more than two-thirds of its assets under management ($255 billion at the end of June) to money market funds. Gregg Warren, a senior analyst at Morningstar, noted that low interest rates have historically taken a toll on Federated. But the Federal Reserve’s expected rate hikes should benefit Federated’s position.
Federated stock, currently trading near $28 a share, should be one of the beneficiaries of a Fed rate increase.