Ordinarily, there’s a lot to love about bonds — but these are not ordinary times.
If anything, it’s time to love dividend stocks.
Intense anxiety that the Federal Reserve will start pulling back on quantitative easing — buying billions in Treasuries and mortgage-backed securities every month — has bond prices tumbling. Indeed, the great 30-year bull market in bonds looks like it’s finally coming to an end.
That’s a serious problem for income investors, but it’s not an intractable one. The answer is to cushion your portfolio with high-quality dividend stocks, which in many respects are superior to bonds, anyway.
Bond yields have spiked recently because of the selloff in the bond market (remember that bond prices and yields move in opposite directions), but they’re still pitiful. The yield on the benchmark 10-year Treasury note is still only about 2.8%, when something closer to 4.5% would be considered “normal.”
At the same time, a quality blue-chip like AT&T (T) is yielding more than 5%. But dividend stocks have more advantages over fixed income than just superior yields.
As the equity dividend team at BlackRock notes, high-quality dividend stocks offer a trifecta of desirable attributes:
- Below-market volatility. S&P 500 dividend payers historically have outperformed non-dividend payers over time with lower volatility than the broader market.
- Lower prices for higher quality. The investor hunger for yield has the market placing a premium on the highest-yielding (and higher-risk) stocks. This affords the opportunity to increase the quality of a stock portfolio by purchasing high-quality dividend payers at attractive valuations.
- Income and growth potential. Dividend stocks offer income that rivals or outstrips that of traditional fixed-income options today, while also providing capital appreciation potential not available from bonds.
Another great thing about dividend stocks — and this is crucial — is that they do better than bonds in the face of inflation. That’s because over time, dividends can grow, BlackRock notes, but bond coupons can’t.
Indeed, historically, dividends rise faster than inflation, helping equity income stocks crush bonds during the past several decades. Have a look at the comparative performance in the chart below, courtesy of BlackRock:
Dividend payers also have proven themselves throughout every market cycle since 2000, which has included a couple of spectacular cyclical bulls and two epic crashes:
Finally, a diversified portfolio of high-quality dividend stocks should fare well no matter what the future holds. Take any combination of stress variables — volatility, interest rates, inflation, energy prices, market returns — and dividend payers have held up remarkably well. Bonds? Not so much. Have a look at BlackRock’s matrix below:
In case you hadn’t noticed, we’re big fans of dividend stocks here at InvestorPlace, especially stalwarts like those found on our list of Dependable Dividend Stocks. Past performance is never a guarantee of future returns, but equity income’s track record through good times and bad is simply too powerful to ignore.
As of this writing, Dan Burrows did not hold a position in any of the aforementioned securities.