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Don't underestimate the power of dividends

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The recent volatility in the stock market, courtesy of chaos in Congress regarding the federal budget and a Federal Reserve uncertain about when it will start removing economic stimulus, has renewed interest in companies with a track record of solid, increasing dividends.

"Dividends continue to be one of the few income generating alternatives to investors. Interest rates, while up, remain artificially low as the timing of the start of tapering continues to be discussed," said Howard Silverblatt, senior index analyst at S&P Dow Jones Indicies.

With corporate cash levels runniThe recent volatility in the stock market, courtesy of chaos in Congress regarding the federal budget and a Federal Reserve uncertain about when it will start removing economic stimulus, has renewed interest in companies with a track record of solid, increasing dividend.

"Dividends continue to be one of the few income-generating alternatives to investors. Interest rates, while up, remain artificially low as the timing of the start of tapering continues to be discussed," said Howard Silverblatt, senior index analyst at S&P Dow Jones Indicies.

With corporate cash levels running in the trillions of dollars, more companies are increasing the payout to shareholders. According to a report issued last week by Silverblatt, 475 companies announced dividend increases in the third quarter, up 8.2 percent from the previous three-month period.

The higher distribution increased cash flow to shareholders by $11.9 billion.

For the first nine months of 2013, there were 2,010 dividend increases, compared with just 287 instances in which companies have cut or eliminated distributions.

"Our philosophy on the use of capital remains unchanged, with our first priority being to reinvest in our business to drive sales and cash flow, while generating strong returns. After these investment opportunities, we expect to return all of our free cash flow to shareholders over the long-term through dividends and share repurchases," Don Thompson, CEO of McDonald's, said.

The fast-food giant last month announced that it increased its quarterly dividend by 5 percent.

The company has raised its dividend each and every year since paying its first dividend in 1976. As a result of the history of higher payouts, McDonald's qualifies as a Dividend Aristocrat, companies with a track record of raising their dividend for at least 20 years in a row.

S&P calculates that only 52 companies qualify as Aristocrats.

And, Silverblatt says there is still ample room for more companies to significantly increase their distributions.

"Payout rates, which historically average 52 percent, continue to remain near their lows at 33 percent. At this point, we expect the fourth quarter to be a busy positive period, especially for large-caps, which have been growing at a faster rate," Silverblatt said.

While San Diego-based Qualcomm has not increased its dividend on an annual basis, it has combined higher payouts to shareholders with an aggressive stock repurchase plan to encourage long-term growth.

"Since these programs began in 2003, we have returned over $25 billion to shareholders through a combination of stock repurchases and cash dividends," CEO Paul Jacobs said.

The power of dividends is clear in the long-term performance of the S&P 500 stock index. A recent report shows $1,000 invested in the index in January 1970 would be worth $17,059 today. However, the real growth in value comes from dividends, adding $48,046 to the total return of the investment.

The real power of dividends is realized when the distributions are reinvested into additional shares of the company

"Reinvested dividends historically have accounted for 40 to 60 percent of the total return of any major global equity market over any 10-year period since 1900," said Milton Ezrati of Lord Abbett. "The longer the investment time horizon, the more important dividend income. For instance, an investor who, in 1971, invested in stocks comprising the Dow Jones Utility index – which typically pay solid dividends – and faithfully reinvested those dividends, would have 36 percent more money in their portfolio today than one invested in the stock comprising the Nasdaq composite index, which generally don't pay dividends."

Of course, dividend-paying stocks, like any others, are always subject to risk. Most market observers believe the next challenge for these companies will be in the form of higher interest rates following the end of easing by the Fed.

"I don't see a real rising rate scenario for another 18 months. In fact, the onset of tapering will probably trigger a fixed income rally, as no one is looking in that direction," said Kelley Wright, managing editor of the Carlsbad-based newsletter Investment Quality Trends.ng in the trillions of dollars, more and more companies are increasing the payout to shareholders. According to a report issued last week by Silverblatt, 475 companies announced dividend increases in the third quarter, up 8.2 percent from the previous three-month period. The higher distribution increased cash flow to shareholders by $11.9 billion.

For the first nine months of 2013, there have been 2,010 dividend increases compared to just 287 instances where companies have cut or eliminated distributions.

"Our philosophy on the use of capital remains unchanged with our first priority being to reinvest in our business to drive sales and cash flow, while generating strong returns," said Don Thompson, CEO of McDonald's. "After these investment opportunities, we expect to return all of our free cash flow to shareholders over the long-term through dividends and share repurchases."

The fast food giant last month announced it has increased its quarterly dividend by five percent. The company has raised its dividend each and every year since paying its first dividend in 1976.

As a result of the history of higher payouts, McDonald's qualifies and a Dividend Aristocrat, companies with a track record of raising their dividend for at least 20 years in a row. S&P calculates only 52 companies qualify as Aristocrats.

And, Silverblatt says there is still ample room for more companies to significantly increase their distributions.

"Payout rates, which historically average 52 percent, continue to remain near their lows at 33 percent. At this point, we expect the fourth quarter to be a busy positive period, especially for large-caps, which have been growing at a faster rate," said Silverblatt.

While San Diego-based Qualcomm has not increased its dividend on an annual basis, it has combined higher payouts to shareholders with an aggressive stock repurchase plan to encourage long-term growth.

"Since these programs began in 2003, we have returned over $25 billion to shareholders through a combination of stock repurchases and cash dividends," said CEO Paul Jacobs.

The power of dividends is clear in the long-term performance of the S&P 500 stock index. A recent report shows $1,000 invested in the index in January 1970 would be worth $17,059 today. However, the real growth in value comes from dividends, adding $48,046 to the total return of the investment.

The real power of dividends is realized when the distributions are reinvested into additional shares of the company

"Reinvested dividends historically have accounted for 40-60 percent of the total return of any major global equity market over any ten-year period since 1900," said Milton Ezrati of Lord Abbot. "The longer the investment time horizon, the more important dividend income. For instance, an investor who, in 1971, invested in stocks comprising the Dow Jones Utility index – which typically pay solid dividends – and faithfully reinvested those dividends would have 36 percent more money in their portfolio today than one invested in the stock comprising the Nasdaq composite index, which generally don't pay dividends."

Of course, dividend-paying stocks, like any others, are always subject to risk. Most market observers believe the next challenge for these companies will be in the form of higher interest rates following the end of easing by the Fed.

"I don't see a real rising rate scenario for another 18 months. In fact, the onset of tapering will probably trigger a fixed income rally as no one is looking in that direction," said Kelley Wright, managing editor for the Carlsbad-based newsletter, Investment Quality Trends.

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