Things are hard to find these days.
COVID tests and face masks are in short supply. And a shortage of bus drivers is affecting my local school district.
Some things are hard to find in the stock market as well … especially for income investors.
The yield on the S&P 500 is a measly 1.3%.
The 10-year Treasury yield is only 1.67%.
Factor in inflation and those figures drop into negative territory. Your income isn’t keeping up with rising prices.
You can look for yield in riskier assets such as high-yield bonds. But the “risk premium” is near historic lows. You’re not getting paid enough to justify it.
Finding a good yield is becoming more like a treasure hunt … with investors scouring over hard-to-read maps.
That’s why it’s time to revisit one popular strategy for clues.
Release the Hounds
Enter the “Dogs of the Dow” … an investment strategy made popular by Michael O’Higgins.
Using the 30 stocks that make up the Dow Jones Industrial Average, this strategy advocates buying the 10 highest-yielding Dow stocks at the start of each year.
The thinking is that a high dividend yield indicates a cheap stock. Plus, a large yield offers the promise of income.
But it’s not quite that easy…
The Dogs of the Dow can turn up … well, some real dogs.
Stocks with a high-dividend yield may indeed be cheap, but many times they trade at a discount for a reason. Worse, the dividend may not be safe and subject to a cut.
Here’s a way to spot the best income opportunities without taking excessive risks.
The Top Dog That Stands Out
This isn’t the first time I’ve scoured the Dogs of the Dow. Last time I combed the list for a great opportunity, I spotted Pfizer (NYSE: PFE). It’s up 52% since that writing, handily beating the S&P 500.
As with Pfizer, this is an example of how we evaluate companies at The Bauman Letter to find stable and growing dividends. Here are two of our criteria:
- Payout ratio: how much a company pays in dividends relative to net income. A low figure points to a more sustainable dividend.
- Balance sheet health: In the capital structure, paying interest to creditors takes precedent over paying dividends to shareholders. So, focus on companies with a high-quality balance sheet.
Now taking the same criteria to this years’ Dogs … and another pick stands out: chemical company Dow (NYSE: DOW). It currently yields 5.3%, which is four times the S&P 500. Despite the high yield, the dividend amount is only about 31% of earnings per share last year.
Plus, its net debt to total capital ratio is just 37%, which is earning the company investment grade credit ratings.
And not only does Dow’s dividend look safe, but analysts are currently projecting increases in each of the next two years. That’s why DOW is my top dog for 2022 and is a great opportunity for you to generate income.
And this proves that, with the right strategy and process not all things are hard to find!
Research Analyst, The Bauman Letter