Stock Market Today, Jan. 22: U.S. stocks today are mixed and trading in a fairly narrow range as corporate earnings season continues - with lackluster results. Investors are cautious ahead of economic data tomorrow that includes jobless claims and existing home sales reports.
Overall, this sector has healthy global sales of $959 billion and is expected to grow those sales at a rate of 4.5% a year. But in emerging markets, sales in this sector will grow at three times that rate. And on top of that, another development will make these markets even more lucrative.
Here's how to get rich in stocks: Buy elite businesses at a good price and let the dividends compound over the years. That's the safe, steady road to building true wealth.
The key is in selecting the right stocks to buy.
However, most investors starved for solid dividend-payers often overlook one of the safest and most lucrative sectors - small cap dividend stocks.
But therein lies the problem--everybody knows they are great companies. That alone can drive their share prices to dizzying heights.
So investors who limit their choices to the big blue chips can end up paying too much-while missing out on another category of stocks that could make them even more money.
In short, they miss the quality small-cap dividend-payers. Here's why that is a big mistake for most investors.
Small Cap Stocks to Buy
Small-cap stocks can be an individual investor's best friend.
In the period between 1927 and 2009, small-cap value stocks returned 14.9% per year.
Meanwhile, returns on large-cap value stocks averaged roughly 3% less per year.
So why do these small frys outperform their larger cousins?
First of all, their small size makes them fly under the radar of many institutional investors.
What's more, mutual funds and pension funds have billions to invest, making it nearly impossible to buy and sell small stocks without having a huge influence on the price. As a result, a fund manager may find himself chasing a stock higher as he tries to take a meaningful position simply because he's the only big buyer.
Second, because the big fish tend to attract the big bucks, small caps are often ignored by Wall Street analysts. Most analysts simply aren't about to spend precious hours researching a company that no one follows.
So "in-the-know investors" buying small cap dividend payers face a lot less competition and can pick up shares at a good price.
Plus, many of these small cap dividend machines actually have a lot in common with their big brethren.
Like many large-cap, dividend-paying stocks, these companies generate tons of cash flow, have great brand names and wide competitive moats in their respective industries.
The bottom line: Investors who are willing to accept a slightly higher degree of risk should consider investing in small-cap value stocks that pay dividends.
Three Small Cap Dividend Machines
With that in mind, here are three small caps that are members of the Russell Global Small Cap Dividend Achievers Index. To qualify they must have raised their dividends annually for more than 10 years and meet minimum cash volumes.
In short, these are companies that throw off plenty of cash and safe dividends.
Until recently you rarely if ever heard technology mentioned as a good sector to search for dividend-paying stocks to buy.
Technology companies for decades have eschewed paying dividends to shareholders - to grow, you had to spend money. They plowed their annual profits back into the company, spending on research and development or acquiring smaller tech companies that improved their product offerings.
Only the largest tech companies like International Business Machines Corp. (NYSE: IBM) ever paid meaningful dividends to their shareholders. If a tech stock paid a dividend, investors would take it as a sign that the company had matured and was no longer a growth stock with meaningful opportunities for appreciation.
In fact, a dividend declaration by a technology company could often lead to a sizable stock decline.
But those days have changed.
How Tech Companies Evolved Into Dividend-Paying Stocks
Tech stopped shunning dividends in the 1990s when tech stocks went through a boom phase.
That's because institutional investors have mandates that prevent them from buying anything other than dividend-paying stocks, and they felt they were missing the action in the technology and Internet sector. They began to pressure tech stocks to pay a small dividend so they too could participate in the runaway rally.
Since then we have seen many of the tech giants initiate regular dividend payments to their shareholders. They were never intended to be significant but things have changed dramatically in the last decade.
Today many of these tech giants have seen their stock prices decline as their cash balances increased. They have raised the dividend to the point that tech stocks can now be a meaningful addition to income portfolios - especially for pre-retirement investors looking for income streams that will still be healthy 10 years from now.
Here are a couple examples of some of the best sources of yield in tech.
That's because even if a fiscal cliff deal is reached, tax rates on dividends will probably still increase. If you add in the investment surtax included in U.S. President Barack Obama's healthcare bill, the top tax rate on dividends could almost triple next year, from 15% to 43.4%.
That is why companies are looking to help out investors in the way of special dividends in 2012.
"Tax rates on dividends are never going to be better," said Steve Joyce, CEO of Choice Hotels International Inc. (NYSE: CHH), on its last earnings call. "I don't know how much worse they are going to get, but they are going to get worse."
Special Dividends in 2012Special dividends offer investors the chance to cash in on a large dividend payout before it's taxed at a higher rate, plus investors will enjoy higher share prices as special dividend-paying stocks get a bump from the news.
More than 420 special dividends have been announced just in November and December, which will soon exceed the 433 paid in all of 2011, according to S&P Capital IQ.
And it's not just special dividends that are helping investors - regular dividends are being altered as well.
Wal-Mart Stores Inc. (NYSE: WMT) announced its fourth-quarter dividend payout, originally scheduled for Jan. 2, will be paid on Dec. 27, and Costco Wholesale Corp. (Nasdaq: COST) and Oracle Corp. (Nasdaq: ORCL) also moved up their first 2013 dividend payments.
Costco not only paid out its first dividend of 2013 in December, it also issued a $7 per share special dividend, totaling $3 billion, to be paid on Dec. 18.
Wynn Resorts Ltd. (Nasdaq: WYNN) was another company in the past two months to announce a special dividend. Along with Wynn's $750 million dividend, some of the biggest payouts have been Brown-Forman Corp's (NYSE: BF.B) $853 million payout, a $1.1 billion payout by HCA Holdings Inc. (NYSE: HCA) and a $1.6 billion dividend by LyondellBasell Industries NV (NYSE: LYB).
Dozens of other companies have also rewarded shareholders.
"It's like a nice end-of-the-year gift," Jay Wong, a Los Angeles-based portfolio manager for Payden & Rydel, a money manager that manages $75 billion told The Wall Street Journal. "We anticipate that some others will probably issue special dividends before the end of the year, when they get a better sense of what's going to change in the tax structure and they assess their financial health."
So where can investors find the next payout?
There's only one problem with this scary story: It isn't true.
Of course, I'll be the first one to tell you I'm not in favor of higher taxes on dividends.
And it is true that if we fall off the "fiscal cliff" taxes on dividends will revert to the full income tax rate of each individual taxpayer.
For the top taxpayers that means the top rate on dividends will rise from 15% to 43.4% if dividends become fully taxable again.
However, that's not as bad as it sounds, which is why I believe dividend stocks will remain the place to be in 2013.
First institutional holders of dividend stocks are taxed at their own rate so they did not benefit from the 2003 cut in dividend taxes. That means they won't suffer from a new increase.
And even among individual investors, many have their investments in IRAs or 401(k )s or other tax- deferred accounts. These holders will continue to receive dividends that won't be immediately taxed.
As for those on more modest incomes, perhaps being retired and living mostly on their dividend income, they will pay taxes only at 15%, 25% or 28%.
These are the thresholds which have been indexed for inflation since 2001, meaning the vast majority of tax payers will never get close to the 43.4% figure that makes for great scary headlines.
But it's not just all about tax rates. There are other reasons why savvy investors should continue to invest in dividend stocks in 2013.
One of them is Barack Obama...
If Congress doesn't act the rate on dividends will revert to the ordinary income rate, which tops out at 39.6%, after it was lowered to 15% during the George W. Bush administration.
"It's a foregone conclusion the rates are going up -- it's just a matter of how high they go," Todd Lowenstein, a money manager with HighMark Capital Management Inc. told Bloomberg News.
But history shows dumping dividend-paying stocks because of higher tax rates is a losing game.
Even if tax rates go up, investors will fatten their wallets on companies that raise dividends because the money compounds over time, essentially paying interest on the interest.
And right now, there are plenty of good reasons for corporations to reward investors with higher payouts.
Why Dividend-Paying Stocks Will Increase PayoutCompanies are sitting on $3 trillion of cash and can create badly needed goodwill by showing they're attuned to investor concerns about higher taxes, according to HighMark's Lowenstein.
Plus, if corporate tax rates climb, companies may want to increase their dividend payouts instead of paying more taxes on interest from that cash.
And it's about time, based on the miserly way companies have been treating investors.
Companies in the S&P 500 paid a paltry 27% of earnings to investors in dividends last year, according to research from Goldman Sachs Group Inc(NYSE: GS). Over the past 50 years, the payout ratio has rarely dropped below 40%.
In fact, the best companies are committed to boosting their dividends in even the worst economic times. Many of them are so predictable that you can narrow it down to the very day they'll pay dividends and, in some cases, even the size of the increase.