The Overlooked Strategy of Dividend Growth Investing

Many investors who focus on dividends look for high yields. But that can be a trap since many companies with high yields have significant problems with their businesses and those high yields can be an illusion. One often overlooked strategy for dividend investors is focusing on dividend growth instead of yield. By focusing on high-quality companies with strong competitive advantages and long track records of increasing their dividends each year, dividend growth investors can find stocks that offer the potential for both solid returns and a reliable, growing income stream.

Advantages of Dividend Growth Investing

There are several key advantages to a dividend growth investing approach:

• It focuses on high-quality companies. In order to pay rising dividends year after year, a company must have a strong, stable business capable of generating consistent earnings and cash flow growth. Seeking out dividend growth stocks naturally leads to investing in high-quality companies.
• Dividend growth stocks tend to be less volatile. The kinds of steady, cash-generating businesses that can consistently raise dividends also tend to hold up better during market downturns. Their reliable and growing dividends provide support.
• Dividends provide a growing income stream. With dividend growth stocks, not only do you collect a cash dividend each quarter, but you can look forward to that dividend increasing each year, providing an income stream that grows over time.
• Dividend growth can be a sign of a healthy, shareholder-friendly company. A long track record of dividend increases demonstrates that management is committed to rewarding shareholders and confident in the company’s long-term prospects.

5 Dividend Growth Stocks

Using Validea’s guru-based stock screening models, which are based on the strategies of famous investors like Warren Buffett, Peter Lynch, and Benjamin Graham, here are 5 high-quality dividend growth stocks that currently earn high scores:

1. The Hartford Financial Services Group (HIG) – This insurance and financial services company earns a 100% score from our Multi-Factor Investor model based on Pim van Vliet. The model looks for low-volatility stocks with strong dividend yields and share buybacks. HIG has a 2.3% dividend yield and has grown its dividend by 10% per year over the past 5 years. The model also likes the stock’s persistent earnings growth.
2. AGCO Corporation (AGCO) – AGCO is a manufacturer and distributor of agricultural equipment like tractors, combines and sprayers. It scores 100% from our Growth/Value Investor model, which looks for companies with strong earnings growth, high returns on capital, and low price/sales ratios, among other factors. AGCO has grown earnings per share at a 49.9% rate over the long term, and the stock has a very low 0.64 price/sales ratio. The company also pays a modest dividend that has grown 15% annually over the past 5 years.
3. PulteGroup (PHM) – This homebuilder earns a 93% score from our P/E Growth Investor model, which is based on the strategy of Peter Lynch. Lynch famously used the P/E/Growth ratio to find fast-growing companies trading at a discount. PHM has grown earnings 30.8% per year, yet trades at a P/E of just 10.3. The company has been using its strong cash flows to aggressively raise its dividend, which has grown 17% annually over the past 5 years.
4. Bank of America (BAC) – One of the largest U.S. banks, BAC earns a 100% score from the Growth/Value Investor model, which looks for stocks with strong sales, earnings growth, and dividend yields. BAC has delivered 22.1% sales growth with an attractive 2.5% dividend yield. The bank has increased its dividend by 17% per year over the past 5 years. Our Multi-Factor model based on Pim van Vliet also gives BAC a 93% score for its low volatility, value, and shareholder yield.
5. CME Group (CME) – CME operates the world’s largest derivatives marketplace, including the Chicago Mercantile Exchange. It earns a 75% score from the Multi-Factor model due to its below-average volatility, high quality, and strong dividend growth. CME has grown its dividend by 11% annualized over the past 5 years while maintaining a low payout ratio of just 52%, leaving room for continued increases.

Finding Dividend Growth Stocks

Using strategies like those of our guru models to find stocks with competitive advantages, strong business models, and long histories of dividend increases can be a highly effective way to build a portfolio that delivers strong total returns and a rising stream of dividend income over time. With a focus on quality and dividend growth, this approach can help investors navigate both bull and bear markets over the long run.

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Originally Posted April 10, 2024 – The Overlooked Strategy of Dividend Growth Investing