The 4 Best Dividends in the S&P

By Simon Erickson - September 19, 2012 | Tickers: BLK, COP, INTC, LMT | 0 Comments

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When it comes to investing your hard-earned cash, buying dividend-paying stocks makes a lot of sense.  They tend to be less volatile in sketchy markets, and you get to cash checks on a quarterly basis.  Even better, if you reinvest those dividends and let them compound for many years, you could be swimming in your very own retirement pool of money.

     (Note: dividend checks aren't typically paid in gold and pearls.  But you get the point.)

However, there is one catch to this glorious investment plan.  The strategy breaks down if the companies you own cannot afford to keep paying their dividends.  Too often, companies make payments that are not sustainable.  This puts them in financial hot water, and they many times have to reduce or suspend their dividends.  That's bad news, and typically gets followed by a cratering stock price.

Fortunately, a bit of well-directed research can find us the best of the best of dividend-paying companies.  There are a few things we should look for to find dividends that are not only sustainable but will rise with time.  We want to look for large companies in established industries, trading at reasonable valuations.  We also want to find dividend payouts that are respectable in size, but in no danger of being cut or reduced.

The Dividend Screen

Now that I've completed my dividend monologue, we can use a stock screen to uncover the very best dividends in the S&P 500.  Putting the above thoughts into action, I used the following criteria:

• Market Cap > $20 Billion.  This reduced the pool to the 500 largest publicly-traded companies.  I then cross-checked that the companies were American companies and a part of the S&P index. 
• Forward P/E < 15.5.  The S&P currently sits at a P/E of 15.5.  Even for solid companies, we don't want to overpay for earnings.
• Dividend Yield > 3%.  The S&P dividend yield is 1.9%.  Setting the screen to 3% will give us companies paying yields at least 50% higher than the index.
• Dividend Growth Rate (Past 5 Years) > 10%.  To build wealth over the long term, we want to find companies who are raising their payouts at a rate that outpaces inflation.  And we want those that are serious about boosting their payouts year after year.
• Payout Ratio < 50%.  The Payout Ratio is the percentage of Net Income that is paid out as dividends.  We should look for companies that are pulling in at least twice as much in earnings as they are paying out in dividends.  This will help ensure that the dividend payments are sustainable even through short-term headwinds.

With such strict criteria, my screen only returned the following 4 stocks:

Source: Morningstar

BlackRock (NYSE: BLK) is now the world's largest asset manager, with over $3.5 trillion of assets under management.  The company invests client assets in both fixed-income and equities.  If you are a believer that bond yields will eventually increase and the stock market will not go through another 2008 any time soon, BlackRock's profits and client fees could continue for an extended period of time.  And with an average dividend increase of 27%/yr (from $1.68/share in 2006 up to $5.98/share today) they are the most aggressive in boosting payouts of anyone on the list. 

ConocoPhillips (NYSE: COP) pumped up its profitability after shedding the company's downstream assets in May.  Oil is getting more difficult to find and to extract, which compresses Conoco's upstream margins.  But hydrocarbons will still be the largest piece of the energy equation for the foreseeable future, and Conoco is well positioned as an independent E&P company that should continue to benefit from the world's growing thirst for energy.  They pay a very respectable 4.5% yield.

Intel (NASDAQ: INTC) is right in the sweet spot of growth and income.  PC sales might be slowing in the US, but the bigger picture is that there is an incredible demand for them in emerging economies.  There is also a new market opportunity opening up for them in tablets and mobile devices.  Intel is one of the tech sector's best dividend payers, currently processing a 3.7% yield.

Lockheed Martin (NYSE: LMT) is the world's largest defense contractor.  After getting hit hard by the economic downturn and even with the dark cloud of US budget cuts, the stock has lifted off nicely over the past twelve months.  Lockheed is a company that will still be in high demand.  Sporting a 4.3% dividend that has been growing at 21%/yr, their payouts look to be go-for-launch into the future.

The Bottom Line

Jeremy Siegel has famously called dividends 'bear market protectors and return accelerators'.  Dividend investing can be a great way to build long-term wealth while still allowing you to sleep soundly at night.  When searching for companies, be sure to look for the combination of sustainability and the potential for increases in the future.

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