Forget the safety of bonds. These growing dividend payers will pay you regular cash, and go up over time too.
Bill Gross is a bond fanatic.
He co-founded Pacific Investment Management Company (PIMCO) and is the chief investment officer of PIMCO Total Return, the largest mutual fund in the world. With $234 billion of assets under management and a history of totally outperforming his peers, it is safe to say that, yes, Bill Gross is a true bond junkie.
That's why we did a double take recently when we read in the Economist that Gross said bond returns "stand at the threshold of mediocrity."
What is he talking about?
The stock market has been flat the entire year (without July's rally, we'd probably be pretty deep in the red). On the contrary, risk-free gilts are up around 7%. As the poster-boy for all things bonds, what the hell is he talking about?!
The truth is that interest rates have almost nowhere to go but up. And as yields increase, bond prices move lower, eating away at any gain from the coupon. Over the past 30 years, interest rates have mostly been on the decline, which has helped their general outperformance with regard to shares.
But those days are most likely over. Considering the developed world's vast indebtedness and new concerns about inflation, rates will literally have to creep up over time. How long it takes is anyone's guess, but Gross has said: "It's been a great thrill as rates descended, but now we face an extended climb."
How to reposition yourself
Everyone knows asset allocation is a crucial part of financial planning. Typically, we allocate a portion of our savings to shares and a portion to bonds and cash, and then we call it quits. The problem is that now we can't expect those spectacular bond returns, and we can't count on them for unlimited yield. That doesn't mean we should stop investing in bonds, but it does mean we should change the way we look at individual shares.
If you're a retiree or close to retirement, you probably have two main concerns: saving enough money to last your lifetime and having enough current cash to pay for your daily expenses.
This is where dividend shares come into play. Similar to bonds, dividend shares dish out regular payments, however, they also have much more potential for capital appreciation. Dividend shares satisfy both of your main concerns by paying you cash up front to help with utility bills, groceries, and other expenses, but they can also increase their value over time, helping to raise your portfolio in the process.
However, not all dividend shares are equal. If you're an investor that wants to sleep easy at night and not worry about the roller coaster that is the stock market, you should look for large, solid, profitable companies, with a decent level of dividend cover, and a modest level of debt.
The best place to start
Let's say you want to take a portion of your portfolio and buy five individual shares. Finding companies that you are comfortable with -- typically companies that have illustrated steadiness in the market -- is crucial to being at ease with your selections.
The five companies we have chosen below might be a great place to begin:
| Company | F'cast
Dividend
Yield | F'cast
Dividend
Cover | F'cast
P/E |
|---|
| Tesco (LSE: TSCO) | 3.5% | 2.4 | 12.2 |
| Reckitt Benckiser (LSE: RB) | 3.5% | 2.0 | 14.7 |
| Compass Group (LSE: CPG) | 2.9% | 2.9 | 14.8 |
| IMI (LSE: IMI) | 3.2% | 2.6 | 12.3 |
| Halfords (LSE: HFD) | 4.8% | 2.0 | 10.4 |
These may not seem like the five most exciting companies in the world, but that's the point. Sometimes the most unexciting, unexpecting companies are the ones that are less volatile but still have the ability to put cash in your pocket, in addition to growing over time.
Also, the forecast dividend yields may not look overly attractive, especially when you have shares like BT Group (LSE: BT-A) trading on a forecast dividend yield of 5.5%. But, unlike the telecoms giant, the above companies weren't forced to cut their dividend in the recent financial crisis, and they aren't saddled with enormous levels of debt.
Don't wait any longer
Despite last year's phenomenal rally in the market, investors this year have pulled billions out of shares and poured that hard-earned cash into bonds. Considering the uncertainty in the market and in our economic future, it's an understandable response.
But we think differently: Investing in individual shares is the best way you can secure a path to a comfortable retirement. You may not get rich overnight, but allocating a good portion of your portfolio to dividend shares will not only increase your wealth, but you'll sleep well knowing that your money is in good hands.
More on the economy and the markets:
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> A version of this article, written by Jordan DiPietro, was originally published on Fool.com. Bruce Jackson has updated it.
