Market strategist: Dividend safety could be myth

Associated Press Modified: November 21, 2012 at 5:00 pm •  Published: November 21, 2012
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Due the strong gains for such top dividend-payers, these stocks make up a greater share of the S&P 500 index than they did a few years ago. The highest-yielding dividend payers account for about 44 percent of the market cap of stocks in the S&P 500, up from an average 34 percent dating to 1970, Masters says.

These stocks have gotten "extremely expensive," he says.

Dividend stocks could also become less attractive from a tax standpoint, especially for investors in the top income bracket. Dividend income has been taxed at a maximum 15 percent since 2003. But that rate will expire in January unless Congress and President Barack Obama reach a compromise first on taxes and government spending. Dividends would be taxed as ordinary income in 2013, and rates would go up depending on which income bracket a taxpayer is in. For the highest earners, the dividend rate would jump to 43.4 percent.

By expressing concern over the current prices of the market's top dividend payers, Masters isn't suggesting stocks are overpriced generally. In fact, he sees strong potential, with stocks priced slightly below their historic average P/E ratio. Current risks abound, from challenges such as the so-called "fiscal cliff" to Europe's debt crisis. But Masters says companies generally have modest debt and plenty of cash.

He sees the best current opportunity in value stocks, which he defines as stocks that are priced low relative to the book value of the underlying company. That's the value of the assets on a company's balance sheet minus its liabilities. While many value stocks pay dividends, not all do, and Masters sees an abundance of potential bargains in the group.

Stocks in the least expensive 20 percent of the S&P 500 based on price-to-book values are trading at a discounted level that's comparable to the bargain-bin prices when stocks hit bottom in March 2009.

"Cheap stocks are very, very cheap today, relative to any time in long-term history," Masters says. "That makes them very compelling."

But Masters cautions investors not to expect a big short-term gain from moving their money into value stocks. Markets can be so unpredictable in the short term that it's hard to say when such an approach might pay off.

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Questions? E-mail investorinsight(at)ap.org



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