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Keep your eye on the dividends

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NEW YORK -- Blue chip stocks with a high dividend used to be called, dismissively, widow and orphan stocks. But grandma was right: It pays to pay attention to dividends.

If you invested $10,000 in Standard & Poor's 500 stocks that paid a dividend in 1979 and another $10,000 in stocks that didn't, your dividend paying stocks would have grown to $379,030 by 2005. The group that didn't pay a dividend would have grown, too, but much less, hitting $230,027 by 2005.

Slicing and dicing short-term timeframes can make dividend payers look worse, but over the long run, they do better than their non-dividend paying peers and right now, they're shining.

Stocks with the very best dividend yields are the only group with double-digit year-to-date returns, up 10.2 percent for the year, according to Merrill Lynch & Co. More broadly, dividend paying stocks in the Standard & Poor's 500 gained 4.29 percent for the first seven months of the year, while non-payers lost 3.26 percent, according to S&P.

Dividends have contributed 37 percent of the Standard & Poor's 500 total returns for the year to date, wrote JP Morgan Chase & Co. U.S. equities strategist Abhijit Chakrabortti in an Aug. 3 note. In some industries, dividends helped even more, contributing 57.3 percent to of returns to healthcare stocks, for instance.

What is it about dividends?

Dividends used to be one of investors' main reasons for owning stocks. As the godfathers of value investing, Benjamin Graham and David Dodd, wrote in 1934, "A successful company is one which will pay dividends regularly and presumably increase the rate as time goes on."

Said Howard Silverblatt, senior index analyst at S&P, "The dividend, to some degrees, acts as an anchor. You don't make as much in the good years, but you don't lose as much in the bad years."

Take 2002, a bad year for stocks. Dividend paying stocks in the S&P 500 fell 10.9 percent, while non-payers dropped 30.3 percent. But in 2003, a good year for stocks, dividend payers rose 33.5 percent while non-payers rose 61.7 percent, according to S&P.

(Remember that some stocks, such as Lucent Technologies Inc., fell so sharply that a double-digit percentage increase could amount to less than $1 a share. "You can increase forever, but you can only go down 100 percent," Silverblatt said.)

Investors in recent decades have shifted their focus away from dividends and toward the possibility that their stocks' prices could go higher. The fixation on prices means they can only make money on a stock if they sell it -- the exact opposite of the widow and orphan mentality, which was to hold on to a stock while it threw off cash.

The corporate mentality has shifted, too. The number of stocks that pay dividends and the total amount of dividends paid has decreased.

Once cash-laden financial, transportation and utility companies are taken out of the S&P 500, there are 375 companies left. Those companies are sitting on $633 billion in cash. While they've spent billions on stock buybacks, they haven't been as generous with dividends.

Only 386 of the S&P 500 pay dividends, down from 469 in 1980. The payout rate for the S&P 500, which is a comparison of their earnings to their dividend payments, has dropped from 59.99 percent for 12 months in the quarter ending June 30, 2002 to an estimated 31.63 percent for the quarter ending June 30, 2006, according to S&P.

Dividends were once a mark of quality. Now they can be a little more complicated.

In some cases a big dividend is one of the primary inducements for holding a stock. Altria Group Inc. (NYSE: MO), a cigarette and food company, has historically paid a hefty dividend to attract investors who might otherwise shun it.

Bristol-Myers Squibb Co.'s (NYSE: BMY) $1.12 per share dividend, which gives the stock a yield of around 5 percent, has been propping up shares in recent years as the company has struggled with patent expirations and an accounting scandal. Merck & Co.'s (NYSE: MRK) generous dividend is thought to do the same. Pfizer Inc. (NYSE: PFE) increased its quarterly dividend by 26 percent in December for the first quarter of the year after its struggles with patent expirations and the withdrawal of its pain reliever Bextra slammed its stock price.

But a nice dividend doesn't always support the stock price. Microsoft Corp. (Nasdaq: MSFT) began paying a dividend in March 2003, but its 1.48 percent yield isn't stunning and the dividend has done little for its stock price.

If you love dividends, which stocks will you love best?

Standard & Poor's puts out a monthly list of its dividend aristocrats, stocks that have 25 consecutive years of increased cash payments. There were 58 in July, including 3M Co. (NYSE: MMM), Anheuser-Busch Cos. (NYSE: BUD), Bank of America (NYSE: BAC), Coca-Cola Co. (NYSE: KO), Johnson & Johnson (NYSE: JNJ), Target Corp. (NYSE: TGT) and Wal-Mart Stores Inc. (NYSE: WMT).

Merrill Lynch runs a "high-quality and dividend yield" screen, looking for stocks that have, among other things, a dividend yield greater than the S&P 500 and a high likelihood of dividend increases. The stocks that meet its criteria are Altria Group Inc., Merck & Co., Polaris Inc. (NYSE: PII), VF Corp. (NYSE: VFC), Kimberly-Clark Corp. (NYSE: KCC), General Mills Inc. (NYSE: GIS), 3M Co., Abbott Laboratories (NYSE: ABT), Avon Products Inc. (NYSE: AVP), Johnson & Johnson, KB Home (NYSE: KBH), Emerson Electric Co. (NYSE: EMR), Procter & Gamble Co. (NYSE: PG)and McCormick & Co. (NYSE: MKC).

In the true widows and orphans tradition, almost all are companies you've heard of and almost all make stuff you're likely to have around the house. Grandma may have been on to something.

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