Long-term investing in stocks does not necessarily mean targeting the stocks likely to gain the most value over time. A second approach, once particularly popular among Italian investors, was to hold stocks in portfolios of fairly solid companies that pay good dividends. This approach allows you to “cash out” periodically, like when you receive the coupon on a bond. If the investment goes well, at the end of the period, you might benefit from an appreciation in the value of the stock. Unlike in bond investing, however, the company does not commit to repaying the principal invested by a specified deadline. Thus, like any stock investment, it is relatively riskier than its bond counterpart.
Investing in “dividend stocks” or “drawer stocks,” as well as a choice of approach (some investors like to put stocks in the drawer and collect dividends for years), can also be, under certain market circumstances, a tactic to use for a certain period. In 2022, for example, the bearish market environment prompted many managers to suggest more stocks tied to companies with regular and predictable profits (such as those operating infrastructure) to play defense and collect good dividends. In 2023, bond yields will be more attractive, but the risk of slowing growth remains a matter of debate. Is it interesting to turn our eyes right now to drawer bonds, hoping they will hold up better to any bad market weather in the coming months?
“In the current macroeconomic environment, with a dollar coming back strong and inflation fears still embedded in the economy, it could be an interesting time to invest in dividend stocks,” Carlo De Luca, head of asset management at Gamma Capital Partners, told We Wealth.
A common indicator for evaluating the best dividend stocks is the so-called dividend yield, obtained by relating the share price to the size of the dividend offered. Choosing the stoutest is an obvious way to select the best companies for the cofferer. But it is not easy: generous dividends are sometimes the offspring of five-star corporate management.
“It is good to clarify, however, that stock selection is not that simple: when analyzing dividend-paying companies, one has to analyze in detail the long-term profitability,” said De Luca, “as a general rule, the investor should be looking for companies whose one-year dividend growth expectations are positive and between 5 percent and 10 percent, but without pulling too hard: Companies whose future dividend growth appears to be “too exaggerated” (e.g., if above 15 percent) are more prone to disappoint analysts’ expectations, with related price repercussions.”
Expected profitability, then, is not everything: the company’s indebtedness must also be taken into account in the choice since “in the case of high indebtedness for the analyzed company, management will focus on repaying it rather than committing that capital to reward shareholders with high dividends,” De Luca pointed out. “On the other hand, management might be willing to continue paying dividends despite the presence of debt that needs to be repaired, perhaps to conceal mismanagement of the company,” but then the knots would still come to a head.
Drawers, watch out for taxes and exchange rates
Other elements to consider are exchange rates when investing in companies listed outside the euro area and the taxation of dividends. The bad news is that dividends from foreign companies, even those within the EU, are taxed twice: first in the country of origin and second in Italy (at 26 percent). It’s a penalty that often makes the drawers lean toward Italian stocks. “Therefore, we prefer to stay in the euro area to have no exchange rate effect and dividends between 4 and 6 percent because where they should have a dividend cut, it remains an attractive yield, above that of the Btp (the drawer’s term of comparison),” De Luca said.
We asked Gamma Capital Partners to select a list of companies that pay attractive dividends; you can read it in the table at the end of the article. “We analyzed the company’s ability to pay down its debt with Ebitda (a measure that highlights earnings before interest, taxes, depreciation, and amortization), payout ratio, expectations of future dividend growth at 12 and 36 months, and dividend health (a Bloomberg indicator that analyzes fundamentals and agency ratings to understand whether the company can sustain the current trend of dividend payments).”