Editor's note: As part of our partnership with PBS's Nightly Business Report, TheStreet's David Peltier joined NBR Monday (watch video) to discuss his top dividend stock picks.
NEW YORK (TheStreet) -- The S&P 500 may be up a quick 5% in the early weeks of 2012, but it's important that investors not forget about dividends. As interest rates remain at historic lows and financial uncertainty looms across the globe, it is prudent to maintain exposure to income-generating stocks -- especially while the tax laws remain favorable in this country.
And believe me, dividends can grow as well. In 2011 alone, Standard and Poor's recorded $50.2 billion of dividend increases in the U.S., with actual cash payments increasing 16% year-over-year. With solid underlying earnings and solid balance sheets, dividends will likely continue to grow in the new year.
With that in mind, what do I Iook for in an attractive dividend stock? Two things: security and potential growth. Both are equally important and I consider both necessary before buying a dividend stock.
First, I look for a stock whose dividend yield is at the high end of the industry range and yields more than the S&P 500 Index and the benchmark 10-year Treasury note (both currently around 2%). But just because a stock yields 5% doesn't make it an attractive investment. We need to find stocks whose price and dividend have limited downside potential.In my opinion, the best way to gauge this is a glance at a company's financial statements. Namely, I want to see that a company earns at least twice as much as it pays out in dividends. This gives management leeway to keep paying the dividend if the company hits a rough patch. For example, if a stock trades at $50 and pays an annual dividend of $2.50 a share (5% yield), I'd want to see consistent earnings of at least $5 a share. On the balance sheet, I want to see consistently high credit ratings and a relatively low debt-to-capital ratio. If the management team is up against the wall and facing a large credit payment, the dividend will likely suffer as one of the first sources of funds. Taking that into consideration, one of my favorite dividend stocks right now is Pfizer (PFE). The shares are little changed on the year, currently trading around $21.74. That gives the company a yield of 4.05%, after management boosted the dividend last December. In fact, investors at the close of trading on Jan. 31 will qualify for the next quarterly payment of $0.22 a share.
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