Buy These Top Dividend Stocks Now to Avoid the Next "Bubble"

Adem is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Following the crash of 2008 and the “great recession” that followed, investors fled stocks in record numbers. Many moved their capital to the “safe haven" of bonds, the world’s largest market. In fact, according to Bloomberg, in the ensuing two years investors moved a record $480 billion into bonds -- a number that continued to rise until recently. With the Fed pushing bond rates even lower with QE3, savvy investors are realizing what others have long feared:

The Next Catastrophic “Bubble” Will Be Bonds
Hard to believe, isn’t it? Well, add up this confluence of red flags, and tell me if it doesn't reek of a bubble:

  • Novice investors, who can’t analyze companies’ debt or even what moves the bond market, have piled enormous sums into the market, leading to record highs.
  • This has driven bond yields to a ridiculous low. The return on a Treasury is next to nothing, just 1.6% on a 10-year note.
  • Interest rates can only go so low before inflation roars. Once it does, that 1.6% yield will look worse, and investors could flee en masse. In fact, Credit Suisse is projecting that in 2013, that 10-year note will rise to 2.25%. Drastic, when you consider the direction we’d been headed previously.
  • Many bond investors (shockingly) don’t know that bond yields and prices move in opposite directions. With bond prices at all-time highs and yields at all time lows, what happens if rates go up 1%? Those bond values can drop quickly, investors would panic, and in a blink, we could see a 10% or 20% decline in values.

The bond bull cannot go on indefinitely. Eventually, rates must rise.

Buy This Instead
With Bernanke assuring low returns in bonds, we have to set our sights on the stock market (the Fed’s goal); don’t fight the Fed—you’ll lose. Rather than bonds, we’ll find safety (and yield) in stocks.

Foolish Dividend Criteria
Dividends are wonderful, but they alone are not reason enough to buy a stock. I want you to look for companies that yield a minimum of 2% (beating treasuries) and still have catalysts for growth and stock appreciation (we want them to grow that yield)! Also, to stay safe, we’re only going to consider stocks with a payout ratio (the percentage of their earnings used to pay out the dividend) around or below 50%; we need to make sure that dividend is sustainable! A tough criteria, yes, but I’ve found three great dividend growers for you:

Coca-Cola (NYSE: KO)

Dividend: 2.7%; has consistently paid and increased its dividend since 1962.

Payout ratio: 51%

Catalyst: Global brand recognition and superior distribution management is leading to stellar growth in emerging markets.

Tiffany (NYSE: TIF)

Dividend: 2.19%; has consistently paid and increased its dividend since 1989

Pay-out ratio: 39%

Catalyst: TIF is cheap, despite growing same store sales, record revenue and earnings.  The stock sells off on fears of its European exposure and a slowing global economy. Yet it remains one of the world’s strongest, storied luxury brands.

Coach (NYSE: COH)

Dividend: 2.08%; has consistently paid and increased its dividend since 2009

Payout ratio: 33%

Catalyst: See TIF. The only difference is COH is growing faster, in more markets. COH saw 40% growth in revenues in China last quarter, and beat analysts’ expectations across the board, yet the stock remains a bargain. Lucky you.

Playing Chicken

All three companies are growth stocks with great brands and dividends to boot. But if you’re too chicken (it’s ok) to hold individual stocks, buy shares of the Vanguard Dividend Appreciation Fund (NYSEMKT: VIG). This wonderful ETF holds many companies (including KO) that pay dividends with the potential to grow their yield; plus, it’ll give you the diversification needed to sleep at night.

Don’t Get Burst in This Bubble

The funny thing about “bubbles” is that they seem so clear in hindsight, yet few see them coming. If you’re still skeptical of my point of view, you probably feel that bonds are the “safe” or “can’t lose” investment right now. But remember, in 1998 tech was the “can’t lose” investment, and in 2005, real estate was seen as both “safe” and “can’t lose.” Sound familiar? The truth is, if people never felt that way, tech and real estate wouldn’t have become bubbles to begin with.

Bonds are a bubble. I only hope you’re not in them when it bursts.

 


mrrightside owns shares of the Vanguard Dividend Appreciation Fund. The Motley Fool owns shares of Coach and Tiffany & Co. Motley Fool newsletter services recommend Coach and The Coca-Cola Company. 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!

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