What should investors be looking for when it comes to choosing the best dividend stocks?
At Morningstar, we think that the best dividend stocks aren’t simply the highest-yielding dividend stocks. We suggest that investors look beyond a stock’s yield and instead choose stocks with durable dividends and buy those stocks when they’re undervalued.
“It’s really critical to be selective when it comes to buying dividend-paying stocks and chasing yield,” explains Dan Lefkovitz, a strategist for Morningstar Indexes.
“Looking for the most yield-rich areas of the market can often lead you into troubled areas and dividend traps – companies that have a nice-looking yield that is ultimately unsustainable. You have to screen for dividend durability and reliability going forward.”
David Harrell, the editor of Morningstar DividendInvestor, suggests focusing on companies with management teams that are supportive of their dividend strategies and favouring companies with competitive advantages, or economic moats.
“A moat rating does not guarantee dividends, of course, but we have seen some very strong correlations between economic moats and dividend durability,” Harrell says.
Given ongoing economic uncertainty and stock market volatility, investors looking for the best dividend stocks might consider adding undervalued, quality dividend stocks to their portfolios. After all, quality companies have the financial stability to maintain their dividends during questionable economic periods, and price risk is reduced when investors can buy the stocks of these companies on the cheap.
10 Best Dividend Stocks to Buy
To find the best dividend stocks, we turn to the Morningstar Dividend Yield Focus Index. The dividend stocks on this list are among the index’s top constituents, and they were also undervalued as of June 7, 2024, with Morningstar Ratings of 4 and 5 stars.
1. Exxon Mobil (XOM)
2. Verizon Communications (VZ)
3. Johnson & Johnson (JNJ)
4. Comcast (CMCSA)
5. Medtronic (MDT)
6. Duke Energy (DUK)
7. PNC Financial Services (PNC)
8. Kinder Morgan (KMI)
9. Devon Energy (DVN)
10. Dow (DOW)
Here’s a little bit about each cheap dividend stock, along with some key Morningstar metrics. All data is through June 7, 2024.
Exxon Mobil
• Morningstar Rating: 4 stars
• Morningstar Economic Moat Rating: Narrow
• Morningstar Uncertainty Rating: High
• Trailing Dividend Yield: 3.33%
• Industry: Oil and Gas Integrated
Exxon Mobil returns to – and tops – our list of the best dividend stocks to buy. In early May, the oil giant announced it closed its acquisition of Pioneer Natural Resources. Morningstar director Allen Good calls the deal “sound”, noting that the pickup is a lean into the firm’s hydrocarbon-focused strategy. Although Exxon struggled to pay its dividend in 2020, Good says that the firm’s recent actions to reduce costs and capital spending should allow the company to meet its dividend payments. In fact, Exxon qualifies as a dividend aristocrat; dividend aristocrats are those companies that’ve raised their dividends for 25 consecutive years or more. We think the stock is worth $138, and shares trade 18% below that.
Verizon Communications
• Morningstar Rating: 4 stars
• Morningstar Economic Moat Rating: Narrow
• Morningstar Uncertainty Rating: Medium
• Trailing Dividend Yield: 6.47%
• Industry: Telecom Services
Verizon is the highest-yielding stock on our list of the best dividend stocks to buy, trading 24% below our fair value estimate of $54 per share. We think the market is overly focused on Verizon’s challenges to add postpaid consumer wireless customers, says Morningstar director Mike Hodel. Hodel argues that the improving competitive balance in the wireless industry will allow the major US carriers to boost profitability in the years ahead. Verizon’s first-quarter results showcased robust wireless revenue growth, thanks to recent price increases that drove higher sales without significantly higher customer defections. Hodel observes that Verizon directed 60% of 2023′s cash flows to the dividend.
Johnson & Johnson
• Morningstar Rating: 4 stars
• Morningstar Economic Moat Rating: Wide
• Morningstar Uncertainty Rating: Low
• Trailing Dividend Yield: 3.27%
• Industry: Drug Manufacturers – General
Johnson & Johnson is another dividend aristocrat on our list of cheap dividend stocks. The stock is trading about 10% below our fair value estimate of $164 per share. With a diverse revenue base, solid pipeline, and exceptional cash flow, the company earns a wide economic moat rating, says Morningstar director Damien Conover. Conover notes that the market is underestimating the company’s solid pipeline and argues that the company’s recently updated strategy to resolve talc litigation should resolve the risk hanging over the stock. He calls Johnson & Johnson’s dividends (and share repurchases) “about right”.
Comcast
• Morningstar Rating: 5 stars
• Morningstar Economic Moat Rating: Wide
• Morningstar Uncertainty Rating: Medium
• Trailing Dividend Yield: 3.03%
• Industry: Telecom Services
Comcast stock trades 30% below our $56 fair value estimate. Morningstar’s Hodel argues that pricing power remains the most important factor driving Comcast’s performance. Accepting modest customer losses while maintaining steady growth in revenue per customer has helped to offset uncertainty around the company’s Peacock streaming service. Comcast instituted a dividend in 2008 and has increased its payout by 15% annually, on average, notes Hodel. We think the balance sheet is sound, and shareholder returns are generally appropriate.
Medtronic
• Morningstar Rating: 4 stars
• Morningstar Economic Moat Rating: Narrow
• Morningstar Uncertainty Rating: Medium
• Trailing Dividend Yield: 3.28%
• Industry: Medical Devices
Medtronic stock trades 25% below our $112 fair value estimate. The largest pure-play medical-device maker is a key partner for its hospital customers, thanks to its diversified product portfolio aimed at a wide range of chronic diseases, Morningstar senior analyst Debbie Wang explains. Medtronic has raised its dividend for 46 consecutive years, earning it dividend aristocrat status.
Duke Energy
• Morningstar Rating: 4 stars
• Morningstar Economic Moat Rating: Narrow
• Morningstar Uncertainty Rating: Low
• Trailing Dividend Yield: 4.00%
• Industry: Utilities – Regulated Electric
Duke Energy stock is trading 8% below our $112 fair value estimate. One of the largest regulated utilities in the United States, Duke has carved out a narrow economic moat because of the constructive regulatory environments in which much of its regulated business operates and better-than-average economic fundamentals in its key regions, explains Morningstar strategist Andrew Bischof. The company’s balance sheet is strong, and its dividend policy to pay out 65% to 75% of earnings is appropriate, he adds.
PNC Financial Services
• Morningstar Rating: 4 stars
• Morningstar Economic Moat Rating: Narrow
• Morningstar Uncertainty Rating: Medium
• Trailing Dividend Yield: 3.98%
• Industry: Banks – Regional
PNC Financial Services is the only bank on our list of the best dividend stocks to buy. One of the larger regional banks in the US, PNC has a fairly diversified fee base, notes Morningstar analyst Suryansh Sharma. We think its balance sheet is well positioned for the current interest-rate cycle, he adds. PNC’s capital return strategy has been appropriate from Morningstar’s perspective. PNC stock trades 11% below our fair value estimate of $175 per share.
Kinder Morgan
• Morningstar Rating: 4 stars
• Morningstar Economic Moat Rating: Narrow
• Morningstar Uncertainty Rating: Medium
• Trailing Dividend Yield: 5.78%
• Industry: Oil and Gas Midstream
Kinder Morgan’s assets span natural gas, natural gas liquids, oil, and liquefied natural gas, but we think the company’s US gas pipeline business is most impressive, observes Morningstar strategist Stephen Ellis. Ellis also notes that Kinder Morgan will enjoy growth opportunities from artificial intelligence and data centre demand. We anticipate a 2%-3% dividend-growth rate ahead. We think the stock is worth $22, and shares trade 11% below that.
Devon Energy
• Morningstar Rating: 4 stars
• Morningstar Economic Moat Rating: Narrow
• Morningstar Uncertainty Rating: High
• Forward Dividend Yield: 9.46%
• Industry: Oil & Gas E&P
Devon Energy is the second newcomer this month to our list of the best dividend stocks, with its stock trading 16% below our fair value estimate of $56 per share. Devon Energy is one of the largest exploration and production companies in the United States. Given its cost advantages, we assign the firm a narrow economic moat rating, explains Morningstar director Josh Aguilar. We think the balance sheet is relatively strong, and like many E&P firms, Devon Energy follows a “fixed plus variable” dividend strategy, which calibrates its returns to shareholders with the commodity cycle, he adds.
Dow
• Morningstar Rating: 4 stars
• Morningstar Economic Moat Rating: Narrow
• Morningstar Uncertainty Rating: Medium
• Trailing Dividend Yield: 5.02%
• Industry: Chemicals
Dow rounds out our list of the best dividend stocks, trading 18% below our $68 fair value estimate. One of the largest chemicals producers in the world, Dow has carved out a narrow economic moat owing to the cost advantages of its ethylene and propylene manufacturing operations in North America, explains Morningstar strategist Seth Goldstein. Demand appears to be recovering, and as profits rebound, we expect improved market sentiment to drive shares closer to our fair value estimate, says Goldstein. The company has paid dividends of $2.80 per share in the past three years, which implies a 2024 payout ratio of 60% - though we think management will prioritize the dividend moving forward, he adds.
What Is the Morningstar Dividend Yield Focus Index?
A subset of the Morningstar US Market Index (which represents 97% of equity market capitalisation), the Morningstar Dividend Yield Focus Index tracks the top 75 high-yielding stocks that meet our screening requirements for quality and financial health.
How are the stocks selected for the index? Only securities whose dividends are qualified income are included; real estate investment trusts are tossed out. Companies are then screened for quality using the Morningstar Economic Moat Rating and Morningstar Uncertainty Rating. Specifically, companies must earn a moat rating of narrow or wide and an Uncertainty Rating of Low, Medium, or High; companies with Very High or Extreme Uncertainty Ratings are excluded. The index includes a screen for financial health using a distance-to-default measure, which uses market information and accounting data to determine how likely a firm is to default on its liabilities; it is a measure of balance-sheet strength.
The 75 highest-yielding stocks that pass the quality screen are included in the index, and constituents are weighted according to the total dividends paid by the company to investors.
The Best Dividend Stock Leaders: More Ideas to Consider
Investors who would like to uncover more top-performing or cheap dividend stocks to research further can do the following:
• Review the full list of Dividend stocks included in the Morningstar UK Dividend Yield Focus index. Those dividend stocks with Morningstar Ratings of 4 or 5 stars are undervalued, according to our metrics.
• Read our monthly analysis of the latest dividend moves among the top FTSE 100 dividend payers.
• Use our Morningstar Screener tool to find the best dividend stocks according to your specific criteria. You can search for stocks based on their dividend yields, valuation measures such as price/earnings, and more.
• Use Morningstar Portfolio Manager to build a watchlist of the best dividend stocks and create a view that allows you to easily follow the valuations, ratings, and dividend yields of the stocks in your list.
This article first ran on Morningstar.com and has been adapted for a UK audience.
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