10 Dividend Growth Stocks for Your Retirement Portfolios …

10 Dividend Growth Stocks for Your Retirement Portfolios Aggregate Yield 4.3%:

Part 2

August 12, 2015 by Chuck Carnevale of F.A.S.T. Graphs

Introduction

After an exhaustive search of the dividend growth stock universe I identified 20 dividend growth stocks that I felt were currently worthy of consideration for retirement portfolios based on valuation. In part 1 of this 2-part series found here I discussed the current level of the S&P 500, and offered some important principles about valuation. Additionally, I offered the first group of 10 of what I consider the highest quality members of the 20 screened research candidates I uncovered. In this part 2, I will present the final 10 of 20 attractively-valued dividend growth stocks that I felt were currently worthy of consideration based on attractive or fair valuation relative to the overall market.

My search criteria were rather simple and straightforward. My primary objective was to identify a group of attractive or soundly-valued dividend growth stocks from which a portfolio could possibly be constructed. Since my focus was on retirement portfolios, my additional objective was to put together a portfolio that in the aggregate would offer a current dividend yield greater than 3%. I also screened for investment grade quality and a consistent record of both paying and increasing dividends. In addition to above-average dividend yield and dividend growth, I was also looking for a conservative group of companies that as a group might produce a reasonable level of future capital appreciation.

Clarifications on the Importance of Valuation

Before I present the second group of 10 research candidates, I would like to offer some clarifications on the importance of valuation. Part 1 of this 2-part series generated a lively comment thread of more than 280 comments at last count. Although I appreciate everyone's contributions, there were 2 comments in particular that I felt missed the primary thesis of this series. Consequently, I decided to share those comments in this article and take the opportunity they provided to offer some important insights on the significance of valuation.

The first comment came from Buyandhold 2012 who regularly contributes comments to my articles

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and many others. His position is that since we are in the seventh year of a strong bull market, no stock should be bought. My retort to that position is one that I often make: "it is a market of stocks, not a stock market." In other words, I believe in building portfolios one company at a time with a primary focus and discipline on fair valuation.

Regardless of the market level, I am primarily interested in the valuation level of the individual company I am interested in investing in. Even if the market was extremely low, I would not invest in any company if I did not consider it fairly valued based on fundamentals at the time. I consider this especially true for retired investors in need of current income to live on.

To these investors, I believe that time in the market is significantly more important and relevant than attempting to time the market. My point is that every dividend that you forgo is one that you will never get back. Stock prices will constantly fall and rise, but eventually move into alignment with fair valuation. However, they tend to fall less from fair valuation than they would when the company is overvalued. I will illustrate that more fully next, but first here is the full comment from Buyandhold 2012:

"Buyandhold 2012

Chuck, I agree with you that we are in the seventh year of a strong bull market. That is the reason that I will not by buying any of the 20 dividend growth stocks on your list of stocks to buy today.

It seems to me that I am stating the obvious when I point out that the seventh year of a strong bull market is not the best time to buy any stocks.

The difference between buying a stock at the right time versus the wrong time can add up to thousands and even millions of dollars over the long term.

Those who forget history are condemned to repeat it. Look back at the history of the stock market and you will see that the seventh year of a strong bull market was never the best time to buy any stocks."

The second comment that I wanted to clarify came from an anonymous commenter that calculated the price drops of the 10 research candidates I presented in part 1. Although I believe his calculations were correct, they were not accurate if they were made based on how far those same stocks dropped from fair valuation. Therefore, utilizing the calculating function of the F.A.S.T. GraphsTM research tool I ran the same calculations on the 10 research candidates based on how far they fell when their stock prices were at fair value. Here is his comment, followed by my calculations based on fair value:

" 266697213

I am wondering how many people who say that it is only income that matters not value when it comes to DG stocks, went though the Great Recession holding DG style stocks.

Here is how much each of the 10 stocks discussed in the article dropped during the Great Recession: JNJ -30% -

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WMT -22% CSCO -55% IBM -37% PG -37% RY -55% CMI -70% QCOM -40% ADM -55% AFL -75%

That's an average of -53%

Imagine if you had a 1M portfolio and it then went down 500k. Add to it the possibility that in these kind of conditions some of the companies are probably going to cut their dividend as did PFE despite its long history of increasing dividends. How sure would you feel about your strategy at that point. To simply say, "Well it bounced back so alls well that ends well." is to ignore the psychic pain involved in this kind of drop which can cause people to make poor decisions. It also smacks of a false bravado borne out of a raging bull market."

Price Drop from Fair Value Dividend Cut: Yes or No

The calculations of how much the 10 stocks presented in part 1 dropped during the Great Recession were not made from fair value. They were made from highs coming into the recession which coincided with overvaluation for most of the 10 companies. I made those same calculations from when the stocks were, in fact, at fair value and the short-term price damage was much lower as follows:

JNJ -30% 18.49% no WMT -22% 00.00% no CSCO -55% 35.42% no dividend at that time IBM -37% 32.97% no PG -37% 14.10% no RY -55% 50.54% no CMI -70% 70.00% no QCOM -40% 00.00% no ADM -55% 47.78% no AFL -75% 71.47% no

That's an average of -38.18% not - 53%, and all of the companies did, in fact, recover quickly (within 18 months) except for Aflac, which was a US financial, and Cummings Inc, which as I referenced in part 1, a cyclical. I acknowledge that a 38% drop is still large, but clearly exercising the discipline to only invest at fair valuation is a risk reducer. But more importantly, none of these 10 companies cut their dividend, but instead, increased their dividend at rather large rates.

Final 10 Research Candidates with an Average Current Yield Of 4.3%

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Although most of the final 10 research candidates have investment-grade credit ratings, I would suggest that they are not of the same quality of the 10 candidates presented in part 1. However, that is not to suggest that they are not all high-quality dividend growth stocks. For example, Omega Healthcare is a REIT with a BB+ S&P credit rating, which is healthy for a real estate investment trust. Eaton Corporation is headquartered in Ireland, and has no S&P credit rating, but a strong balance sheet and a low debt to capital ratio of 31%.

Therefore, these candidates could technically be thought of as a little more risky, but I do not consider them high risk. On the other hand, greater risk should come with greater opportunity for profit and/or higher income. Most of the 10 research candidates in this group either offer higher income, higher capital appreciation, or a combination of both than what was found with the 10 higher quality candidates presented in part 1. Consequently, when combined with the first 10 research candidates, the complete group potentially offers risk control, high-yield and above-average capital appreciation potential.

The following portfolio review presents the final 10 fairly-valued research candidates in order of highest S&P credit rating to lowest. The table presents the following important metrics: S&P credit rating, sector, P/E ratio, earnings yield, dividend yield, market cap and long-term debt to capital. Just as I did in part 1, I will present an earnings and price correlated F.A.S.T. GraphsTM since calendar year 2007 on each individual candidate, followed by a near-term earnings forecasting calculator and an analyst scorecard illustrating the historical record of analysts making forecasts on each company.

Also, just as I did in part 1, this is offered as the first step prior to a more comprehensive research effort. Just like I did in part 1, I will present a brief commentary on each company to get the investor started. There is a significant amount of fundamental research contained in each of the earnings and price correlated F.A.S.T. GraphsTM presented in both parts 1 and part 2 of this series.

Therefore, I strongly suggest that the reader spend some time analyzing and evaluating what these fundamental oriented graphs reveal. The primary points I suggest focusing on are the earnings and price correlation over time (the orange and black lines), and especially how price eventually responds to earnings when they get disconnected. I also suggest focusing on the dividend line (the white line in the dark green earnings) and notice how it continuously rises in spite of price volatility.

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Emerson Electric Co. (EMR) Emerson Electric is a high-quality industrial company engaged in the electrical components and equipment subsector. As such, its operating earnings history is what I would call quasi-cyclical. In other words, it is not a deep cyclical; instead, it is a company that experiences occasional periods of earnings weakness typically followed by longer periods of earnings growth and strength. Emerson is a Dividend Champion that has increased its dividend for 58 consecutive years. This recent earnings weakness has caused the stock to come off of previous highs into fair valuation territory. Emerson is A rated, offers an above-average current yield of 3.8%, and is expected to return to historical earnings growth levels in the future. Consequently, I believe the company is an excellent opportunity for the conservative long-term dividend growth investor to consider today.

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