Dividend paying stocks vs bonds - what to own?

For those looking at a more stable investment and a good level of income, with overvalued stocks and rising interest rates it might be sensible to think that bonds are now a better investment.

There is a strong argument however that stocks of well-established companies with attractive dividend yields are much better long-term investments than bonds are.

With bonds, you know that every year you will receive the same % income and when the bond matures you will receive all your money back. 

If we consider say the 10 year US Treasury notes which currently pay around 3% and Pepsi which pays a dividend yield of 3.25%. The government notes will surely provide more stability and as we said, you are guaranteed to receive all your capital after 10 years and a fixed coupon each year. With Pepsi on the other hand, price fluctuations are quite normal but if value goes down, your income will not really change because of the company's importance to raise dividend each year.

Furthermore, if we just consider price changes on their own, whilst ignoring dividends, we notice that Pepsi still managed to generate good returns over the longer term:

Prices changes for shares of PepsiCo through Sept. 18, 2018

1 year   2 years   3 years    5 years    10 years   15 years 

                                                                                                -1%        8%        22%          38%         56%      149%

One way to look at attractive dividend paying stocks is by looking at the S&P 500 Dividend Aristocrats index.  In order for a company to be included in this index it needs to has raised its dividend consecutively for 25 years. This means that yields aren’t necessarily high, however the companies have a strategy to raise dividends each year and therefore the income stream is protected.

Below you can find a list of companies which are currently part of the index. We had written about AT&T in another article and we can see that, along with other firms, they managed to generate a healthy dividend without sacrificing capital returns.

Apart from investing directly into stocks, another way to benefit from this strategy is by using Exchange Traded Funds. The benefit here is that you will have a diversified basket of different well-established companies that have raised dividends over the last 25 years. Below are a couple of examples that are either focused on the European or US markets and also for those who prefer a more Global strategy.

SPDR(r) S&P Global Dividend Aristocrats UCITS ETF – GBDV GBP

SPDR(r) S&P Global Dividend Aristocrats UCITS ETF – ZPRG EUR

SPDR S&P US Dividend Aristocrats UCITS ETF USD

SPDR(r) S&P Euro Dividend Aristocrats UCITS ETF – SPYW EUR

ProShares Trust - ProShares S&P 500 Dividend Aristocrats ETF (NOBL.P) USD

From a performance perspective, it turns out that raising dividends has been correlated with significant outperformance over long periods. With dividends re-invested, we can see that over a longer time frame, the dividend focused companies generated higher returns than those who do not. (see table and chart below)

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