The Making of an Income Aristocrat

02/09/2012 9:45 am EST

Focus: INCOME

Charles Carlson

Editor, DRIP Investor

The new hot trend is dividend stocks—there’s even talk of Apple (AAPL) going to a dividend. And with all that variety, it pays to build from quality long-term income stocks before you get too fancy, writes Charles Carlson of DRIP Investor.

In many ways, 2011 was the year of the dividend. Dividend stocks as a group performed well on a relative basis, as investors, hungry for more cash flow and less volatility, snatched up dividend payers.

And corporations did their part, boosting dividends at a rate not seen since 2007. According to Standard & Poor’s, dividend increases reached more than $50 billion in 2011, up more than 89% from 2010.

Overall, S&P reported 1,953 positive payout actions. That figure was up 13% from 2010 and was the highest since the 2,513 positive dividend actions in 2007. Only 101 companies cut or omitted dividends, down 30% from 2010 and the fewest negative dividend actions since 2006.

Dividends should continue on the upswing in 2012 for at least four reasons:

  • Companies have nearly $2 trillion in cash sitting on their balance sheets. That’s cash that can be used to boost dividends.
  • Corporate profits set an all-time high in 2011, and profit growth should continue in 2012. Companies should be willing to share that growing profit pool with shareholders in the form of higher dividends.
  • The percentage of corporate profits being paid out in dividends (known as the “payout ratio”) is 28%, well below the 20-year average of 40%. Said differently, corporate America could boost dividends an aggregate 43% in 2012, and the payout ratio would only be back to its 20-year average.
  • It is clear investors want dividends.

With money markets yielding slightly above zero, and many bonds hardly boasting rich yields, investors are desperate for dividends.

The lust for dividends was quite evident in 2011 when dividend-paying stocks represented one of the few sweet spots in the market. Corporate executives no doubt saw the interest and demand for dividend stocks in 2011, and are likely to be more predisposed to boosting dividends to help attract investors to their shares.

Which companies are likely to boost their dividends in 2012? One good hunting ground is a universe of stocks that have a history of boosting dividends. S&P releases each year its list of “dividend aristocrats.”

Aristocrats are stocks that have boosted their dividends annually for at least 25 years. S&P has indexes built around this concept. One is the S&P High Yield Dividend Aristocrat Index. The index is comprised of the 60 highest yielding constituents of the stocks of the S&P Composite 1500 Index that have increased dividends every year for at least 25 consecutive years.

All but seven of the stocks in the index offer a dividend reinvestment plan, with many allowing direct purchase for initial shares. The list contains a number of my favorite DRIPs, four of which have boosted dividends annually for more than a quarter-century, and have maintained an impressive dividend growth rate as well.

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