For income investors, much of the good news this year revolves around robust dividend growth, and that’s applicable to both U.S. and international equities. In fact, payouts are getting close to reclaiming the highs seen prior to the onset of the coronavirus pandemic.
However, that’s not an invitation for investors to overlook some of the crucial fundamentals when it comes to identifying durability. Those lessons take on added importance at a time when bond yields are depressed, tempting investors to perhaps take on added risk with high-yield dividend stocks.
Said another way, recent history — the 2020 coronavirus bear market — is a reminder that reaching for yield doesn’t always provide positive outcomes for dividend investors. In fact, that strategy can bring negative surprises, underscoring the point that assessing durability is paramount.
“Geat dividend-income strategies take steps to control their exposure to firms whose dividends might be at risk,” writes Morningstar analyst Daniel Sotiroff. “It’s a careful compromise between two competing forces, balancing yield with financial stability. Often the best portfolios land somewhere in the middle. They don’t have the highest yields, nor do they strictly focus on the highest-quality stocks.”
Scrutinizing Payouts Pays Off
Dividend investing is a long-term strategy, and as such, it’s highly advantageous for investors to embrace companies that are consistent dividend growers. That’s particularly true for investors that aren’t relying on equity income to fund their lifestyles today. Over time, that dividend growth compounds, providing investors much income to tap into, if needed, during retirement.
Quality is vital. While stocks with the quality designation rarely reside in high-yield territory, many that pay dividends have impressive histories of boosting those payouts.
“There is no one right way to emphasize quality in a dividend-income strategy, but it should be noticeable and consistent over time,” adds Sotiroff. “The quality factor itself is somewhat squishy as it can be defined in a number of ways. Many strategies have converged on several metrics, typically some combination of profitability, earnings stability, and low dividend payout ratios, among others. Collectively, those traits are indicative of companies with the financial stability to weather adverse business conditions while continuing to make good on their dividend payments.”
Investors looking for quality equity income ideas may want to consider the SmartETFs Asia Pacific Dividend Builder ETF (ADIV) and the SmartETFs Dividend Builder ETF (DIVS). These are actively managed exchange traded funds that emphasize quality and dividend durability over high dividends.
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The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.