The strategy of dividend growth has long been a critical aspect of many investors’ portfolios - and for good reason. Though these commonly known companies tend to be less “exciting” stocks, they are an important antagonist to many of the small-cap stocks with lots of opportunities to grow.
Often described as unexciting, dividend growth stocks tend to be steady stocks with little volatility, while still appreciating in price over time. Additionally, they pay out regular dividends that tend to rise on an annual basis - usually a sign of the good financial health of a company. According to a research paper by S&P Dow Jones Indices, “when a company is reliably able to boost its dividend for years or even decades this may suggest it has a certain amount of financial strength and discipline.”
Small-cap stocks, on the contrary, are mostly correlated with high volatility and significantly more risk while also not paying a dividend. In addition, they tend to have high debt and very little profitability. This is why many investors lean towards investing in dividend-growth stocks. The beautiful combination of stock price appreciation and rising dividend yields allows for more stability within one’s portfolio, while still generating wholesome returns.
Despite the focus of this strategy being on dividends, high dividend yields do not always correlate to strong company performance. Companies in turmoil will oftentimes try to attract new investors with profuse dividends. However, high dividend yields with slim income generation could create even more debt for the company overall. This signals bad financial health and a worrying development within the business. As a rule of thumb, dividend growth investors look for an annual dividend yield between 2% and 4%.
Investment metrics to look at for dividend growth stocks, besides the fundamental/intrinsic value of the company’s products, are dividend payout ratio, debt-to-equity ratio, Price/Earnings ratio, and PEG ratio. These will allow investors to furtherly assess the financial performance of a company and its underlying stock.
MVT’s Common Fund makes use of the dividend growth strategy by allocating some of its funds into ETFs that focus on this. For all of the reasons mentioned above, it makes it a good fit for a diversified portfolio.
Sources:
https://www.investopedia.com/articles/basics/04/072304.asp