For an investor who wants to use income from her portfolio for spending needs, there aren't a lot of good choices today. U.S. large cap stocks are yielding under 2%. The 10-year U.S. Treasury yield is right near 2% as well. Higher yielding dividend stocks fall in the 3% to 5% range, but how predictable are those dividend yields? High-yield bonds sport a yield of about 6% today, but there's a lot of credit risk and no potential growth in high-yield bonds. If you want to spend 4% of your portfolio and have that amount grow with inflation, what's the right portfolio? How much risk are you taking to generate that income? We'd like to look into these questions by investigating a dividend portfolio that is focused on dividend growth rather than dividend yield.

We start with the premise that dividends are uncertain and we'd like to hold those stocks that have consistently grown their dividend payouts historically. There is no guarantee that such companies will continue to pay and increase their dividends, but we want to filter out those companies who are the most inconsistent in their dividend payouts as well as those who have been unable or unwilling to increase their dividends over time. A long history of stable and growing dividends points to a stable and growing company. Holding stock in such companies should create a stable and growing portfolio that can provide income through good times and bad.

Let's start with some basic criteria to determine which stocks to include in our study. We want to hold companies that have all these attributes:

  1. The company currently has a dividend yield between 3% and 8%.
  2. They have been paying dividends for the past ten years.
  3. They have not decreased their dividends any of the past ten years.
  4. They have increased their dividends in at least seven of the past ten years.
  5. The maximum increase in the dividend payout is 100% in any one year.

We chose the first criterion as we want all our holdings to pay an above average dividend, while not paying such a high dividend that we question the company's ability to continue to pay and grow the dividend. The remaining criteria are focused on a company's dividends being stable and regularly increasing, with the final criterion focused on controlled growth. Long-term stable companies very seldom increase their dividends by a multiple, so we exclude companies that have more than doubled their dividends in any one year.

There are about 70 stocks that meet all these criteria today. We can apply one last screen to shrink the list to a manageable number. We pick the 25 stocks that have had the lowest risk over the past ten years. We use a simple standard deviation of monthly returns to determine each company's risk.

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Jason Draut, CFP®
516 El Cerrito Plaza
El Cerrito, CA 94530
Chris Sheehy, CFP®
180 7th Ave Suite 204
Santa Cruz, CA 95062
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