Dividend stocks may not have the flash that growth stocks bring to the table, but over the long run it's really difficult to beat the steady return potential of an income stock.
Dividend stocks attract investors for a variety of reasons. First and foremost, a company that pays a regular dividend, be it monthly, quarterly, semiannually, or annually, is probably profitable and has a time-tested business model. After all, a business is unlikely to share a percentage of its profits each year if the outlook for that business is deteriorating. This makes a dividend payment akin to a waving green flag that's showing investors where to park their money over the long term.
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Buying income stocks is also a means of hedging your bets, so to speak, against inevitable downside in the market. Since 1950, the S&P 500 has undergone 37 full-fledged stock market corrections of at least 10%, not including rounding. While dividends alone are unlikely to offset the entirety of any rapid decline in the stock market, they can help abate your short-term losses, thereby preventing hasty decision-making and promoting a long-term view on investments.
Perhaps most important, your payouts can be reinvested back into more shares of dividend-paying stock via a dividend reinvestment plan, or DRIP. Although this may sound boring, the ability to compound your share ownership of dividend-paying companies, and therefore the payout you're receiving (which is then funneled back into more shares of dividend-paying stock), is the same strategy that the top money managers use to grow wealth for their clients.
These three big-name companies are oh so close to becoming Dividend Aristocrats
But not all dividend stocks are alike. Among them is a special group of a few dozen time-tested companies known as Dividend Aristocrats that have increased their aggregate annual payout for a minimum of 25 straight years. Right now there are three brand-name companies on the cusp of greatness that, should they raise their payout one to two more times, will join this elite group of income stocks.
Image source: Connie Zhou for IBM.
IBM: 24 consecutive years of raising its dividend
Arguably the best-known name on the verge of greatness is "Big Blue," IBM (IBM -0.94%). Although IBM has attempted to push its legacy hardware and software days into the past by focusing on enterprise cloud products, its move into the cloud was slower than many of its peers, leading to its sales sliding for multiple years on a comparable basis. Despite this lack of revenue growth, IBM has managed to reduce costs and remain very profitable. Following its 24th consecutive annual payout increase this past April, IBM is currently yielding 4.3%, or about double the average yield for the broad-based S&P 500.
Chances are very good that IBM's dividend streak is sustainable for years to come, although the company's payout growth may slow a bit as it digests its whopping $34 billion acquisition of Red Hat. In fact, IBM is suspending share buybacks in 2020 and 2021 to conserve capital and pay down debt following its mega-purchase, which is probably a smart move given that Red Hat can finally provide some pep to IBM's top line. Nonetheless, the company remains committed to growing its dividend, and with a payout ratio of under 50% for 2019 and 2020, becoming a Dividend Aristocrat next year looks very doable.
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Polaris Industries: 24 years
Another high-profile dividend stock that's very close to becoming a Dividend Aristocrat is off-road vehicle (ORV) and Indian motorcycle manufacturer Polaris Industries (PII 0.17%). In late January, the company declared a 2% increase to its quarterly cash dividend, marking the 24th straight year that Polaris has returned more to its shareholders. Currently paying out 2.6%, Polaris provides a modestly higher yield than the S&P 500.
Polaris generates the majority of its sales from ORVs and snowmobiles, which, while influenced by the weather, tend to be a generally high-margin businesses for Polaris given its No. 1 position in North American motorsports market share. The company is also focused on improving margins in its Indian motorcycle unit, as well optimizing its after-market sales channels, which are its respective No's. 3 and 2 in terms of 2018 annual sales. With all of Polaris' business segments expected to grow in 2019, and the company's payout ratio at less than 40% of forecasted 2019 earnings per share, it's looking increasingly likely that Polaris becomes an elite dividend stock early next year.
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TJX Companies: 23 years
Income seekers should also note that TJX Companies (TJX -0.86%) is knocking on the door of becoming an elite dividend. TJX, which operates the T.J. Maxx and Marshalls retail brands, to name a few, raised its dividend by 18% in April from the prior-year period. This marked the 23rd consecutive year that the fashionable apparel and accessories retailer has given its shareholders a raise. It is worth noting, though, that TJX's current yield of 1.7% is actually lower than the average yield of the S&P 500.
But there's a good reason for income investors to still gravitate toward this soon-to-be Dividend Aristocrat. Namely, TJX Companies is working on its 24th straight year of positive same-store sales growth. Mind you, this includes both the dot-com swoon and the Great Recession. What makes TJX so unique is the company's focus on buying deeply discounted brand-name merchandise from its numerous vendors, then packaging this product at deep discounts in its own stores and reaping a profit. In reality, as more retailers struggle and go out of business, the core of TJX's purchasing and branding strategy is only growing stronger.
Sporting a payout ratio of 35% of Wall Street's forecasted 2019 earnings per share, future dividend hikes appear likely.
