Dividend Stocks Provide Attractive Returns
Investing in dividend-paying stocks is a smart strategy for anyone looking for immediate returns. Companies that regularly increase their dividends often outperform the overall market with less volatility. This trend suggests that consistent dividend growth encourages management to prioritize careful capital allocation, signaling to investors a strong belief in the company’s future growth potential.
In this article, we’ll take a closer look at two notable dividend-paying stocks that, together priced at around $500, seem undervalued. Both of these companies have either just begun paying dividends or boast a solid history of consistently raising their payouts.
1. Alphabet
Alphabet (NASDAQ: GOOG, NASDAQ: GOOGL) is currently facing some challenges, having seen its stock drop around 5% recently due to increased scrutiny over regulations affecting its search and advertising models. Investors are also worried that Alphabet might be falling behind in the artificial intelligence (AI) race, especially when compared to competitors like Microsoft, which has established a significant presence in this emerging sector.
Despite these worries, Alphabet is thriving, achieving record levels of revenue and profit. In just the first half of 2024, the company reported net sales of $165.3 billion and an impressive net income of $47.3 billion, marking remarkable year-over-year gains of 14.5% and 41.5%, respectively.
According to its latest financial reports, Alphabet holds a strong balance sheet with $88.9 billion in net cash. This financial strength likely enabled the company to initiate its first-ever dividend earlier this year. Currently, Alphabet pays a quarterly dividend of $0.20 per share, which translates to an annual yield of 0.53%. Notably, their payout ratio is just 2.8%, leaving plenty of room for future increases.
Alongside dividends, Alphabet returns value to shareholders through share repurchase programs. For example, the company allocated $31.4 billion for buybacks in the first half of 2024, reducing its outstanding share count by 1.2%. Over the last five years, the outstanding share count has decreased by an impressive 10.9%, highlighting Alphabet's commitment to returning capital to its shareholders.
Management understands the importance of AI and is making substantial investments in this area. CEO Sundar Pichai has emphasized that the risks of underinvesting in AI are far greater than those of overinvesting, reinforcing Alphabet's dedication to remaining at the forefront of this transformative technology.
In the first half of 2024, the company invested $25.2 billion in capital expenditures, a significant increase from the $13.2 billion spent during the same period in 2023. While some critics question whether Alphabet is keeping up with its AI competitors, it still maintains a stronghold in online advertising and search. Additionally, with a price-to-earnings (P/E) ratio of about 22.3, Alphabet trades below its historical average of 26.8, suggesting it might be undervalued right now.
2. Caterpillar
Caterpillar, Inc. (NYSE: CAT), the largest manufacturer of construction equipment in the world, has seen its stock deliver a modest return of 1.5% over the past six months. However, it’s well-known for its strong dividend policy, having paid a quarterly dividend since 1989 and increasing it every year for an impressive 31 consecutive years. Currently, Caterpillar offers a quarterly dividend of $1.41 per share, providing an annual yield of around 1.7%. With a payout ratio of 23.7%, the prospects for continued dividend growth look positive.
Like Alphabet, Caterpillar has been actively reducing its share count, cutting it by 2.9% in 2024 and by 12.3% over the last five years. Management has indicated that they plan to use most of their free cash flow, which comes from their machinery, energy, and transportation sectors, for dividends and stock repurchases. For 2024, they estimate cash flow will range between $7.5 billion and $10 billion, though some investors remain cautious. In 2023, Caterpillar generated $10 billion in free cash flow from these business units.
The stagnation in Caterpillar’s stock price is largely tied to persistently high-interest rates, which have adversely affected global demand in construction sectors. Recent figures show a 4% decline in net sales to $16.7 billion, and a 7% drop in backlog to $28.6 billion year-over-year, raising some concerns.
Nonetheless, there’s hope for improvement, as interest rates are projected to fall, potentially revitalizing demand for construction projects. The company stands to gain from significant public infrastructure investment, thanks to the $1.2 trillion Infrastructure Investment and Jobs Act enacted in 2021. Additionally, with a lack of new housing developments since the Great Recession, there’s a considerable demand for residential construction, positioning Caterpillar favorably.
Similar to Alphabet, Caterpillar’s current stock is trading at a comparatively lower valuation relative to its historical norms, at about 15.5 times earnings versus a median of 16.9 times over the last five years. This makes them an appealing option for investors seeking undervalued dividend stocks.
Should You Consider These Dividend Stocks?
Both Alphabet and Caterpillar are well-positioned to reward their shareholders with increasing dividends in the future. Investing in stocks known for steady dividend growth is essential for surpassing market performance over the long haul. Given their attractive valuations, adding these companies to your portfolio might be a wise investment choice.
Frequently Asked Questions
What are dividend-paying stocks?
Dividend-paying stocks are shares of companies that provide a portion of their earnings to shareholders in the form of cash payments known as dividends.
Why should I consider investing in Alphabet and Caterpillar?
Both Alphabet and Caterpillar have strong financial standings, a proven history of paying dividends, and are currently trading at appealing valuations, making them potentially rewarding investments.
What is a payout ratio?
The payout ratio represents the percentage of earnings a company pays out as dividends to its shareholders. A lower ratio often indicates more potential for future dividend growth.
How can I benefit from investing in dividend stocks?
Investing in dividend stocks can generate a reliable income stream and the potential for long-term capital appreciation since these companies usually reflect solid business fundamentals.
Is it a good time to invest in dividend stocks now?
Given the current market conditions, particularly with stocks like Alphabet and Caterpillar trading below their historical averages, now could be an advantageous time to consider investing in dividend stocks.
