Banks Heading Into Dividend Sweet Spot: KBW

A big part of investors' fear over the Fiscal Cliff is the probably expiration of the 15% maximum federal income tax rate on qualified dividend income. If we "fall off the cliff" with no deal between President Obama and the Republican leadership of the House of Representatives, dividends will be taxed as ordinary income. This will obviously be very painful for upper income taxpayers, but it will be just as painful for lower-income investors, who are currently paying no federal taxes on qualified dividend income, if their adjusted gross income keeps them within the 15% tax bracket.

Many companies are paying special dividends before the end of the year, and some have accelerated the payment of dividends to the fourth quarter, for obvious reasons.

Cannon said that "even with higher tax rates on dividends, we believe that high dividend yields will continue to attract investors," because a "significant portion" of equity investments are in tax-deferred retirement funds, because "bond yields are depressed due to [Federal Reserve] policy," and because "the tax rate on dividends will likely be lower than on ordinary income under most Fiscal Cliff resolution scenarios."

According to KBW's list of "dividend growers" among large-cap financial stocks, Citigroup (C) will see the greatest increase in dividend payout next year. The bank is currently paying a nominal quarterly dividend of a penny a share. Cannon expects this to increase to a 25-cent dividend late in the first quarter, for a 2013 yield of 2.7%.

Citigroup took a major step last week to cut expenses, announcing 11,000 layoffs and the closure of 84 branches, which will result in $1 billion in fourth-quarter charge-offs, but also is expected to save the company $900 million in 2013, with expense savings reaching $1.1 billion in 2014. The company said that the cuts would cause a decline in revenue of a relatively small $300 million.

On Cannon's list of "Large-Cap, High Yield Stocks with Growing Dividends," PNC Financial Services Group (PNC) ranks second, after JPMorgan, with a dividend yield expected to climb to 3.58%. PNC is currently paying a quarterly dividend of 40 cents, for a yield of 2.87%, based on Friday's close at $55.80. Cannon expects the company to pay out two dollars a share in 2013.

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