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Why Dividend Stocks are Good in this Market

Dividend stocks are always a wise safety net for any portfolio. But right now, they’re essential market beaters. Here are two we like.

Dividend Stock

As chief analyst of our Cabot Stock of the Week investment advisory, I’m tasked each week with recommending a new stock that I pluck from one of seven other Cabot newsletters. All of them are excellent and cover almost the full investment spectrum: Growth stocks, momentum stocks, small-cap stocks, value stocks, international stocks, even cannabis stocks. But lately, dividend stocks have become my go-to.

The reasons are fairly obvious. Dividend stocks represent stability and (relative) safety, two qualities that are at a premium in a bear market like this one. And that’s reflected in the results: While the Dow (-6%), the S&P 500 (-15%) and the Nasdaq (-28%) are all down either sharply or very sharply in 2022, the SPDR S&P 500 Dividend Fund (SDY) – whose holdings include longtime dividend stalwarts such as Exxon Mobil (XOM), AT&T (T), AbbVie (ABBV) and Realty Income (O) – is actually up 1.7% year to date, and that doesn’t include the 2.7% yield. If you had just bought SDY at the beginning of the year and held on to it, you’d have actually made money in 2022, which is something very few people can say.

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Tom Hutchinson, who runs our Cabot Dividend Investor advisory, is even better than the SDY at picking the market’s best dividend stocks. Much better. His 16 current portfolio holdings, all of them dividend-paying stocks, boast an average total return (dividend yields included) of 48%. Granted, he’s owned the majority of them for more than a year, but he’s also had to sell very few stocks along the way. Tom’s dividend-only portfolio has weathered the 2022 market storms better than any of our other investment advisories.

Will that change in 2023? Eventually, perhaps. Growth stocks, particularly the technology-related titles that populate the Nasdaq, have fallen much further and for longer (more than a year now) than any other category of stock, and are due for a comeback … at some point. When the market finally gets off its knees in a sustainable way (i.e. for longer than a couple weeks), growth stocks are likely to lead the charge. For now, though, uncertainty remains – and so does the need for the safety dividend stocks provide.

In fairness, dividend stocks do tend to underperform in bull markets. The SDY, in fact, fell short of the returns in the S&P 500 every year from 2019-2021, when the latter gained an average of roughly 24% a year vs. a 13.5% return in the SDY. Their slow-and-steady nature works against them a bit when times are good, as investors gravitate to less mature, fast-rising companies whose greatest growth periods are still ahead of them.

But 2022 marks just the third year since 2006—the first full year of data for SDY, which was launched in November 2005—that the S&P 500 has been down more than 1%. In each of those three years, the SDY outperformed. If a new bull market materializes in 2023, then it’ll probably be wise to start adding some growth stocks to your portfolio. Until that happens, though, I’d go heavy on the dividends, if you aren’t already.

Which dividend stocks should you own? Like I said, Tom Hutchinson currently recommends 16 of them in his Cabot Dividend Investor advisory, and I can’t just give them all away. To learn all their names, I highly suggest becoming a Cabot Dividend Investor subscriber (remember – 48% average gain!). A click here will get you started.

However, Tom did recently write in this space about two dividend stocks that are perfect for this era of inflation and, possibly, a coming recession. Here are the two he recommended:

Safe Dividend Stock #1: NextEra Energy, Inc. (NEE)

Utility stocks are well suited for recession. The sector is the most defensive in the market as earnings are virtually immune to economic cycles. Stocks also pay high dividends and typically hold up very well in down markets.

NextEra Energy provides all those advantages plus exposure to the fast-growing and highly sought-after alternative energy market. It is the world’s largest utility, a monster with about $16 billion in annual revenue and a $164 billion market capitalization.

For the last 10-, five-, and three-year periods, NEE has not only vastly outperformed the Utility Index, it has also blown away the returns of the overall market. How can that be? It’s because it isn’t a regular utility.

NEE is two companies in one. It owns Florida Power and Light Company, which is one of the very best regulated utilities in the country, accounting for about 55% of revenues. It also owns NextEra Energy Resources, the world’s largest generator of renewable energy from wind and solar and a world leader in battery storage. It accounts for about 45% of earnings and provides a higher level of growth.

Investors love it because they get the safety and income of a utility and still get great growth and capital appreciation. It’s the best of both worlds.

From 2004 through 2019 the company grew earnings by an average annual rate of 8.4% and grew the dividend at an average rate of 9.4% per year. That propelled the market returns stated above. The company is targeting at least 10% annual dividend growth through at least 2024. And NextEra has a long track record of meeting or exceeding goals.

With NEE you get a solid defense utility that can weather a recession with solid returns. At the same time, it operates in a friendly regulatory environment and should easily be able to pass on higher costs to customers in an inflationary environment. You also get the growth of clean energy and the desirability as a conservative play on the trend.

Safe Dividend Stock #2: AbbVie (ABBV)

Investors rediscover the defensive attributes of healthcare stocks in times like this. That’s why healthcare is the second-best-performing sector over the last three months. Healthcare will continue to thrive regardless of the state of the economy.

AbbVie is a cutting-edge company specializing in small-molecule drugs. It has grown into the eighth-largest pharmaceutical company in the world, primarily on the strength of its blockbuster biologic autoimmune drug Humira, which is the world’s number one drug by far with annual sales of about $19 billion.

The stock floundered for a while on fears of Humira losing its American patent in 2023. But investors have since realized that the strength in AbbVie’s pipeline and growing newer drugs on the market can overcome the loss in revenue.

AbbVie has what EvaluatePharma (the keeper of the keys of the industry’s pipeline potential) recently called the second best pipeline in all of pharma, with many more drug launches in the next few years. And Humira isn’t likely to disappear. It’s still estimated to be one of the world’s top-selling drugs until at least the middle of this decade.

To further diversify away from dependence on Humira, AbbVie purchased Ireland-based Allergan (AGN) for $63 billion. The company is about half the size of AbbVie and features blockbuster facial treatment drug Botox. The acquisition diversifies the company away from Humira in the near term while the stellar pipeline gains traction.

This is one of the best and most advanced drug companies in the world with the enormous tailwind of the rapidly aging population. The longer-term prognosis is fantastic as the company is effectively addressing the near-term issues.

Despite the fact that ABBV has returned more than 19% YTD in a tough market and 39% over the last year, the stock still sells at a valuation of just 14 times forward earnings.

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Chris Preston is Cabot Wealth Network’s Vice President of Content and Chief Analyst of Cabot Stock of the Week.