Dividends can often be viewed as the heart and soul of a portfolio. Although there are high-growth non-dividend-paying businesses investors can buy that can, ultimately, outperform the market, historical data has shown that dividend-paying stocks handily outperform their non-dividend-paying peers (collectively) over the long run.
Put plainly, dividend stocks are awesome
If we take a step back and think about the logistics of a dividend stock, this outperformance make perfect sense.
Image source: Getty Images.
For one, dividend stocks are almost always profitable, and they typically have time-tested business models. In other words, it's highly unlikely that a company's board of directors would authorize a regular payout if the company wasn't profitable and didn't foresee continued profitability and/or growth. Thus, a regular quarterly payout almost acts as a filter to help investors find some of the strongest companies in their respective industries and sectors.
Dividend stocks are also excellent for helping to calm the nerves of skittish investors. Even though it's a fact that stock market corrections happen quite often, the swiftness of moves lower in the market can catch investors off guard. But if investors are receiving a regular quarterly or annual payout from their holdings, it can help to partially hedge this downside and provide the reassurance of being invested in a profitable and time-tested company.
Of course, the best part of buying income stocks is the ability to reinvest these payouts into even more shares of stock via a dividend reinvestment plan (DRIP). DRIPs are a common strategy employed by the world's most successful money managers to quickly build wealth for their clients.
In sum, dividends stocks are sort of awesome, and there's no group that typically commands more attention than the Dividend Aristocrats.
Image source: Getty Images.
Anything your stock index can do, Dividend Aristocrats can do better
A Dividend Aristocrat is an S&P 500 (^GSPC +0.25%)-listed company that's increased its annual payout for at least 25 consecutive years. This group of Dividend Aristocrats is updated regularly to reflect the addition of new companies that have hit this payout-increase milestone, as well as remove those businesses that are acquired or fail to continue their streak of returning more capital to their shareholders. Because of their listing within the broad-based S&P 500, these are often considered among the safest dividend stocks in the world.
Interestingly, Dividend Aristocrats also have quite the history of outperforming the broader market. Between 1991 and 2018, Dividend Aristocrats outpaced the annual return of the S&P 500 in 15 of 28 years. However, over this 28-year stretch, the magnitude of outperformance following recessions has been huge, leading to an average annualized outperformance of 1.45%. This may not sound like a lot, but investing solely in Dividend Aristocrats as opposed to the S&P 500 since 1991 would have led to a 49.6% aggregate outperformance.
And next year, there should almost certainly be a new addition to the Dividend Aristocrats list, which currently totals 57 companies. That expected newcomer is none other than tech bellwether IBM (IBM +2.74%).
Image source: IBM.
Say hello to the (expected) 2020 Dividend Aristocrat inductee
This past April, IBM's board of directors approved a $0.05-per-share increase to the company's quarterly payout, lifting it to $1.62. Although "Big Blue" has paid a quarterly dividend for 103 consecutive years, its current streak of boosting its payout in each of the past 24 years is what has it on the cusp of joining dividend greatness.
What's more, with a current yield of 4.8%, IBM is set to jump right in as a top-four-yielding Aristocrat, with only AbbVie, ExxonMobil, and AT&T offering similar or higher yields at the moment. In total, IBM would be one of only five "high-yield" Dividend Aristocrats.
IBM certainly doesn't need an introduction to most investors, but its almost certain addition to the Dividend Aristocrats club next year should help further drive income-seeking investors to the company.
However, investors should also understand that IBM's juicy dividend is a function of its share price underperformance over the past decade. Despite a nice rally in 2010, Big Blue's share price is virtually unchanged from where it was 10 years ago. This weakness is a reflection of the company's tardiness to move away from enterprise software sales and into the cloud. Though IBM has now made this move, it did so later than many of its peers, and as a result has struggled to offset declining sales from its legacy products. This has led to year-over-year revenue declines in nearly every quarter for six-plus years.
Image source: Getty Images.
IBM attempted to offset its late entrance into the cloud by being among the first to power into blockchain. IBM has been testing its blockchain-based payment platform in southeastern Asia, and announced a joint venture spinoff with global shipping giant A.P. Moller-Maersk (better known as just Maersk) in January 2018. This joint venture will focus on developing blockchain solutions for the shipping industry to improve supply chain lag times by eliminating paper trails. Unfortunately, blockchain's push has died off quite a bit, putting IBM on the cutting edge of a technology that isn't quite ready for the mainstream as of yet.
On the plus side, IBM did just complete the acquisition of Red Hat in July for $34 billion. Red Hat's enterprise-focused cloud products could provide the high-margin kick in the behind needed to ignite sales growth at IBM, although Wall Street will have to wait and see if this is $34 billion well spent.
With IBM generating $15.4 billion in operating cash flow over the trailing-12-month period, it's not exactly struggling. But investors who decide to take the leap with IBM for its lucrative and apparently sustainable payout in 2020 need to understand that they're also getting a company that's trying to reinvent itself, once again. It has done so before, which is the good news, but it could be a long process.
