Dividends are the stock market’s great safety net. No matter what turbulence the market may bring, cash in your pocket will always be in-style. The trick to getting dividend investing right is to pick companies that have strong yields and good prospects, so they can increase the dividend. Look for stocks with these two characteristics:
1. A low pay-out ratio. This is the percentage of cash a company pays to its shareholders (via dividends) from their earnings. Stocks with pay-out ratios below 50% and strong yields outperform the market, because the dividends are sustainable.
2. Current earnings growth and long-term growth catalysts. Simply put, more money coming in means more money paid out to you.
Today’s dividend winners
It goes without saying that with markets at record highs (and possibly overvalued), and a new European crisis at our doors, dividend-paying stocks are a good idea now. Here are some dividend winners that meet the aforementioned criteria.
General Mills, Inc. (NYSE:GIS)
General Mills, Inc. (NYSE:GIS) has household food brands that we all love, such as Cheerios, Pillsbury, and Yoplait. The company is more than just a collection of brands, however–it’s a dividend powerhouse. Over the past five years General Mills, Inc. (NYSE:GIS) has managed to grow earnings (9%) and their dividend (11%) at a strong, average, annual clip. The nice part is that the company only raises the dividend once it raises additional cash, and to date they still sport a pay-out ratio below 50%, despite offering a healthy 2.74% yield.
What’s truly unique is how much General Mills (NYSE:GIS)‘s brands have a direct effect on pricing power. The company enjoys a ridiculously high gross profit margin of 37.23%. That’s just not seen in the consumer staples industry typically and it offers a wide moat against competition. With food prices in danger of rising alongside inflation, General Mill’s pricing power is a true catalyst that should help to protect its dividend and steal market share when industry headwinds hit.
Potash Corp./Saskatchewan (USA) (NYSE:POT)
This fertilizer and feed producer is cyclical in nature, and has seen its industry in the midst of a lull. It sports a pay-out ratio below 50% and a dividend yield around 2.8%. The bullish dividend trend is that customers can only put off buying Potash Corp./Saskatchewan (USA) (NYSE:POT) products for so long. Sooner or later they need to replenish their inventories. Long-term catalysts include: inflationary effects on food prices, severe weather trends, and a global population that’s on its way to 9 billion (from 7)!
As earnings grow (both long-term and through the next up cycle), that pay-out ratio should shrink and the dividend should increase aggressively. Potash Corp./Saskatchewan (USA) (NYSE:POT) sports a strong dividend that’s due to get stronger—eat this one up!
Norfolk Southern Corp. (NYSE:NSC) and CSX Corporation (NYSE:CSX)
Rail companies have seen their stock prices held in neutral, thanks to the downturn in coal. That is just one of the catalysts for growth that come with the strong dividend yields of Norfolk Southern and CSX (2.68% and 2.33%, respectively).
You see, the catalysts for these companies all come from a misunderstanding on how much of an impact coal will have on their earnings. Sure, on paper the coal exposure looks to make up as much as 25% of revenues, but even amidst an awful year for coal, CSX increased earnings 9%. These companies are growing, and there are truly brighter days ahead. Here are some catalysts:
1. Rails operate in an oligopoly, meaning both of these companies only have a few major competitors—which leads to near limitless pricing power
2. Coal is expected to rebound and exports are expected to surge dramatically (thanks India and China!)
3. CSX and Norfolk’s other business lines (like agriculture, intermodal, etc.) are surging
And most importantly, with rising gas prices it’s worth noting that rail is three times more fuel efficient than highway travel. Both of these companies are undervalued, with multiple growth catalysts, and pay-out ratios below 40%. The good times (and dividend increases) should keep chugging right along.
Olin Corporation (NYSE:OLN)
Olin offers a little more in the way of safety and stability than growth. This company is a manufacturer of chlorine, ammunition, bleach products, and more. Olin pays a solid dividend of .80 cents per share (3.21% yield) while sporting a pay-out ratio below 45%. Growth isn’t expected to be overwhelming for Olin, with earnings estimates coming in at about 15% ahead of last year’s figure. But with the stability and diversity of these business lines, and a relatively low pay-out ratio, the dividend should be safe. Things like bleach are purchased in good times and bad, which is the reason Olin stayed largely profitable through the panic of 2008. It should be a stable “total return” winner going forward.
Dividends: a compass for market uncertainty
At the end of the day dividend winners demonstrate many of the characteristics that all good companies do. They have financial fortitude, earnings growth, and favorable prospects. The difference is that dividend payers “prove it.” A company just can’t pay-out a share of its earnings unless it’s really earning cash. That might not mean too much when the market’s floating higher, but it’s a safety net worth having when the winds of volatility swirl. These five stocks provide the growth and safety needed to navigate through the market’s uncertainties.
The article 5 Dividend Winners for This Market originally appeared on Fool.com and is written by Adem Tahiri.
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