It’s common sense for dividend investors to pile into stocks offering monster yields, right? After all, the quickest way to generate abundant investment income is with those promising huge windfalls in the here and now, yeah?
The answer is a resounding ‘no’. While this strategy may work for short-term investors, for those seeking to invest over a longer time horizon this strategy could prove catastrophic.
Indeed, a number of previous go-to FTSE 100 dividend shares — from Barclays and Tesco to Rio Tinto — have all slashed the shareholder reward in recent times. And a number of other big-yielding blue chips are on the verge of following suit thanks to their muggy earnings outlooks and colossal debt piles.
Manufacture a mint
So rather than flocking to stocks carrying monster yields, income investors need to seek out companies with robust balance sheets and a strong growth profile when building their investment portfolios.
One such stock is auto-and-aero-parts manufacturer GKN (LSE: GKN). Yields at the business have long lagged those of its big-cap peers, but this has enabled the business to invest in its operations and make acquisitions like that of aerospace giant Fokker to keep earnings swelling, an essential precursor for any dividend stock.
This more prudent approach to dividends gave GKN the financial robustness to raise the payout in 2015 even as the engineer posted a rare earnings fall.
And with earnings expected to tick higher again in both 2016 and 2017, GKN is predicted to raise last year’s 8.7p per share payout to 9p this year and 9.5p next year.
Sure, these projections may yield ‘only’ 2.9% and 3% respectively, some way below the FTSE 100 forward average of 3.5%. But dividends are covered 3.2 times by earnings for 2016, and 3.4 times for 2017, sailing above the safety watermark of two times. This should give investors confidence in these forecasts being met.
Dividend dynamos
And GKN isn’t the only great dividend growth stock out there. Financial giant RSA Insurance (LSE: RSA) may have had a rocky time of late, the firm having cut the dividend during three of the past five years.
But with restructuring measures transforming the balance sheet and bolstering the insurer’s earnings picture, RSA Insurance looks set to keep its recently-resurrected dividend policy firing. The number crunchers share my optimistic take, and expect payouts of 14.4p and 20.3p per share in 2016 and 2017, shooting from 10.5p last year.
These figures see the yield leap from 2.7% this year to 3.8% in 2017. And dividend coverage clocks in at a meaty 2.1 times through to the close of next year.
I believe household goods giant Unilever (LSE: ULVR) is also a great pick for those seeking reliable earnings, and consequent dividend, expansion in the years ahead.
For 2016 and 2017 the City expects Unilever to hike last year’s dividend of 120 euro cents per share to 125 cents in 2016, and again to 134 cents next year. These figures create dividend yields of 3.4% and 3.7%.
While dividend coverage of 1.5 times through to end-2016 may fall below the widely-regarded security threshold, I’m convinced Unilever’s exceptional defensive qualities — namely the formidable pricing power of key labels like Dove and Axe and excellent geographical diversification — leaves it in great shape to keep raising the dividend long into the future.