Three Strong Dividend Stocks for the Beginner Investor
Leo is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
Many new investors to the stock market are often baffled as to where to start. While many financial advisors suggest balanced mutual and index funds with a mixture of bonds dependent on the investors' age, others recommend a more aggressive basket of 10 to 15 individual stocks that are selected to outperform funds, sacrificing short-term stability for longer-term growth.
When choosing the latter option, many new investors get too aggressive with their portfolio and chase performance by loading up on the hottest momentum stocks with little regard to a longer-term, three to five year goal. Despite the short-term gains of these momentum stocks, day and swing traders often not only underperform the market, but underperform simple large cap dividend stocks.
These three dividend stocks have a strong track record of paying out dividends that are higher than their respective industry peers. I have chosen these three stocks in particular in order of ascending risk, explaining the benefits and drawbacks of owning each stock.
Altria (NYSE: MO)
Altria is synonymous with Big Tobacco. The company was once a single entity consisting of Philip Morris and Kraft, which were both spun off over the past decade. Today, Philip Morris International (NYSE: PM) is the company's overseas tobacco arm, while Kraft (NASDAQ: KRFT) handles its packaged foods segment. The modern Altria is in charge of Philip Morris' tobacco brands, which include Marlboro, Parliament and Virginia Slims, within the United States. It also holds a minority stake in brewer SAB Miller. SAB Miller has slight exposure to Europe, but this exposure is minimal.
With a low beta of 0.46, Altria is ideal for nervous new investors looking for a "set it and forget it" solution for their portfolios. However, some investors may have ethical objections to supporting Big Tobacco, and constant litigation and high excise taxes are constant concerns.
Due to these threats, Altria treats shareholders extremely well for toughing out legal challenges. The stock pays a hefty quarterly dividend of 44 cents per share - a 5.4% yield at current prices. Its dividend has also steadily increased over the past four years. Despite its reputation as a stodgy income stock, Altria has rallied 11% over the past 12 months and 36% over the past five years.
In addition, Altria has a solid reputation for consistently repurchasing outstanding shares. In 2012, Altria bought back $1.3 billion in stock, or 2% of the company's outstanding shares.
American Capital Agency Corp. (NASDAQ: AGNC)
American Capital Agency is a mortgage REIT. Mortgage REITs borrow and lend MBS (mortgage backed securities), relying on a wide spread between the interest rate they borrow at - which is at historical lows - and the rate at which they lend to other parties.
Conservative mREITs such as American Capital and Annaly Capital Management (NYSE: NLY) borrow at the 2 year Treasury rate (0.24% as of Dec. 18) while lending out MBS at the 10 year treasury rate (1.72% as of Dec. 18). The wider this spread, the more profitable the mREIT is.
In exchange for allowing this income to be taxed at a lower corporate rate, American Capital is required by law to pay out the majority of its profits to shareholders as dividends. The tax liability is then passed on to shareholders as regular income tax. American Capital's dividend yield is an eye-popping 16% with a quarterly payout.
Although a 16% dividend will raise red flags with more conservative investors, a look back at its price history tells a different story of a low beta (0.46) stock with an impressive 12-month (7.4%) and 5-year (56.2%) run. Even more importantly, AGNC trades under book value, which is currently $32.49 per share, making it a bargain for investors.
Although mREITs are technically harder to understand than tobacco stocks, AGNC investors just need to watch three key factors: current 2-year and 10-year Treasury rates, the company's price-to-book ratio and announcements of share-diluting secondary offerings.
AGNC management has taken note of the stock's value, and has announced a $500 million share buyback plan. This is a surprising contrast to its numerous secondary offerings over the past three years.
France Telecom SA (NYSE: ORAN)
Last but not least, France Telecom, the parent company of French telecom giant Orange, offers a 13.4% dividend. The stock has slid from $14 in September to $11, on macro concerns in Europe due to the ongoing sovereign debt crisis.
On a fundamental basis, the stock is extremely attractive, trading at 6.7 times forward earnings and 0.8 times book value. Although downside for its share price is limited, analysts are concerned that France Telecom's dividend is unsustainable, given the current economic malaise in France. Moody's recently downgraded the country's credit rating while unemployment has soared to 10%.
France Telecom has already announced plans to reduce its dividend from 1.4 euros per share to .80 euros annually. This would reduce the upcoming dividend to a yield of 9.4% - still a league above AT&T's 5.25% yield and Verizon's 4.71% yields. However, investors are concerned that further dividend cuts may be on the horizon, which would make France Telecom a far less lucrative investment.
Meanwhile, a new mobile phone provider called Iliad arrived in early 2012, and has already taken over 5% of the market. With such strong growth momentum, Iliad could cause more headaches for France Telecom in the coming year. Increased competition could lead to lower margins, as pricing wars are common between telecom providers.
Although shares of FTE are likely to remain under pressure until the situation in Europe improves, the stock is an excellent choice for more risk-tolerant investors. Smartphones and tablets are here to stay, and the largest telecom provider in the France - the fourth largest economy in Europe - is a stable bet on Europe’s eventual recovery. When Europe finally starts its long overdue turnaround, France Telecom will likely boost its dividend again to win back investors.
In closing, here's an overview of the three stocks I mentioned in this article.
Altria is the safest bet, and a stock I would heartily recommend to the beginning investor, due to its low beta and a healthy dividend. American Capital rewards moderately experienced investors, who are willing to do some due diligence to learn the ins and outs of mREITs. Lastly, France Telecom is for the patient investor who can tune out market pessimism and ride out European volatility.
Leo Sun is long MO and AGNC. The Motley Fool owns shares of France Telecom (ADR). Motley Fool newsletter services recommend France Telecom (ADR). Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!