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MILLBURN, N.J. ( Stockpickr) -- The yield on a 10-year U.S. Treasury is 2.96%. For a seven-year U.S. Treasury, you will earn 2.28% to maturity. Think about it: You will receive less than 3% for locking up your money for seven to 10 years. Sure, you will most certainly not lose any of your principal, but you will be at risk for a rise in interest rates.
Given that interest rates are already at historically low levels, it is unlikely that you will be unable to generate any sort of capital appreciation. The five-year U.S. Treasury yield of 1.61% is less than the dividend yield on the
S&P 500 index, which is about 1.71%. Investment grade corporate bonds of similar maturities to the U.S. Treasuries I mentioned above do not enhance your yields by much.
This yield predicament is something that investors are facing in today's interest rate environment. Retirees are increasingly seeing their higher-yielding certificates of deposit and bonds maturing without finding a suitable replacement. These people represent a good portion of my clientele, and I have had to satisfy their need to find income.
7 Divident Stocks to Increase Your Returns
There are several important criteria in substituting investment-grade fixed-income instruments with high-dividend stocks. So before I throw out
some investment ideas, let's understand some of these prerequisites to income replacement using stocks:
1. No Dividend Traps: Dividend traps are stocks that pay a dividend of above the market average but consistently decline in price. Many boards of directors try to prop up the company's stock price with massive stock repurchases. You might be enticed to buy these stocks because of the dividend yield, but you will likely lose principal value over time.
2. Consistent and Stable Earnings Growth: We are not looking for companies that are rapidly growing such as
Netflix(NVLX). Rather, we should seek out companies with stable earnings.
3. Low Beta: Beta is the correlation coefficient of return for an individual stock vs. a market index. Typically, the market is defined as the S&P 500. For example, a stock with a beta of 1.1 will be expected to have a price change equal to 110% of the SPX's price change. Beta measures market risk -- the lower a stock's beta, the less price risk that the stock will have. Keep in mind, though, that the expected price change will also be lower. For this exercise, that is what we want; we are willing to trade the potential for capital appreciation for consistent dividend returns.
4. Industry Diversification: A quick glimpse at many of the high-dividend-paying stocks would reveal that
most of them are electric utilities. Since we are already moving from a low-risk fixed-income strategy to a higher-risk asset class of stocks, it would be prudent to reduce risk within the stock asset class. One way is to focus on low-beta stocks. The other way is to diversify the portfolio across several sectors.
Given those four conditions above, here are a few
income-producing stock picks.