Dividend Stocks - Motley Fool's High Yield Portfolio

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Build a High-Yield Portfolio
http://www.fool.com/investing/dividends-income/2008/08/19/build-a-high-yield-portfolio.aspx

Todd Wenning
August 19, 2008


Buy 10 to 15 high-yielding large-cap stocks today and hold them -- forever.

Yes, you read that right
This is the basic philosophy of the High-Yield Portfolio (HYP) strategy put forth by our friends at Motley Fool UK back in 2000.

At first glance, the whole idea sounds a bit crazy. I mean, buying stocks with the intention of never selling them comes off as, well, perhaps a bit naive.

After a closer look, though, there are some distinct advantages to the HYP strategy.

But first, let's take that closer look
So how does the HYP strategy choose its 10 to 15 stocks? It chooses only:

Large-cap stocks,
With a history of increasing dividends,
Relatively low debt levels, and
Sufficient dividend coverage,
That hail from diverse industries.
The original UK HYP, for example, picked fifteen stocks from the FTSE 100 index, including Rio Tinto (NYSE: RTP), Lloyds TSB, and Scottish & Newcastle.

The only permissible reasons to sell or remove a stock from the HYP portfolio are (1) the dividend is halted or cut, or (2) the company is acquired.

All about growth
Like other dividend-focused investing, the HYP strategy relies on the power of dividends to strengthen overall returns. Dividends, after all, have made up more than a third of the S&P 500's return since 1926.

But what sets the HYP strategy apart is its focus on growing dividends. By buying companies with a history of raising their dividend payouts, you're betting that they're going to continue raising those payouts -- providing you with an ever-increasing income stream.

The point of the HYP isn't capital appreciation, although that's usually an added bonus. Rather, the point is that growing dividend income -- providing an annual income that exceeds that of the current ten-year Treasury note (currently yielding 3.95%).

And that income is itself flexible. Investors far away from retirement can reinvest the dividends to increase their holdings and thus increase their payouts. Investors close to or in retirement can use the payouts as income that supports their standard of living. But because the income grows, it has the potential to beat inflation. And when you add that to the capital appreciation, you can end up sitting on a pretty penny.

OK, but do you really mean "never sell"?
Now, this idea of intentionally not selling seems counterintuitive. At some point, perhaps when the stock has reached our price target, doesn't it make sense to sell and take the capital gain?

According to the HYP's original author, Stephen Bland, the strategy demands a different perspective:

High yield portfolio (HYP) shares are not bought with the intention of selling. Quite the reverse. They are bought to hold for income and continue to be held until such time as it might very occasionally suit the investor to sell, perhaps never. Selling is not the reason for buying, unlike value trading, where selling is the only reason for buying.

It takes some getting used to, but this passive approach prevents you from overtrading and making poor valuation decisions -- while simultaneously providing you with a growing income. Best of all? You don't have to worry about daily market fluctuations.

Between November 2000, when the original HYP was started near the height of the UK market, and December 2007, it returned 68% capital appreciation without dividend reinvestment (while the FTSE 100 lost 8.3%), and included a 5.9% annual dividend yield to boot. Not only that, in just seven years the dividends grew 29%.

Now for the U.S. version
So what would a current U.S. version of the HYP portfolio look like? To come up with the list below, I followed the HYP methodology and selected a diverse group of ten S&P 500 stocks:

Capitalized above $10 billion,
With a strong history of increasing dividends,
An above-market dividend yield,
And sufficient ability to service current debt.
Company
Dividend Yield (ttm)

Pfizer (NYSE: PFE)
6.4%

AT&T (NYSE: T)
5.1%

General Electric
4.2%

Carnival
4.1%

DuPont (NYSE: DD)
3.6%

Altria (NYSE: MO)
5.4%

Chevron (NYSE: CVX)
3.1%

Bank of America (NYSE: BAC)
8.3%

ProLogis
4.4%

Southern Co.
4.5%

Average Yield
4.9%


*Source: Yahoo! Finance as of Aug. 19, 2008.

For every $10,000 invested in this portfolio, an investor could expect around $480 a year in dividends -- now. Because each of these stocks has a history of increasing their payouts every year or so, that dividend figure should continue to grow, providing the HYP investor with an ever-growing income to reinvest or live off of.

Foolish final thought
The High-Yield Portfolio strategy isn't the Dogs of the Dow, nor is it a magical formula or technical trading tool. It's simply buying strong companies with proven dividend track records and holding them for the long run -- and remaining patient to allow the dividends time to do their job.




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