When it comes to finding the best dividend stocks, you’ll probably want to use an automated stock dividend screener as a tool to find good candidates to buy.  Screening is a way to scan the stock market for stocks that meet your particular criteria.  Dividend investing can be very profitable, and while there are many stock screening programs out there (some you pay for, some are free – I’ll list a couple of free ones at the end of this article), it is important to understand the characteristics of good dividend stocks, so your screening tool can help you filter out unacceptable choices.

For an easy dividend stock screener to find the best dividend stocks, I would suggest focusing on the following qualities to help find strong dividend stock candidates:

Dividend Yield – The dividend yield can be calculated primarily in one of two ways – either by using the trailing 12 months dividends, or by using the expected dividends for the upcoming 12 months, and then dividing that number by the current price of the stock.  Ideally you want to buy dividend stocks that have a yield that is higher than the overall market.  Stock market yields as well as individual stocks yields will fluctuate over time, as stock prices move up and down, and the amount companies pay out in dividends changes, so it is good to check these factors right before you buy a stock, and not just rely on data you put together at some earlier point in time. At this time, I would suggest looking for stocks with dividend yields of at least 4% to 5%.

Profit – Also known as earnings, profit drives company growth, and more importantly for us, profit is what pays dividends in healthy stocks that pay dividends (some company’s pay for dividends by taking on more debt, and distributing that cash to share holders – see the next paragraph for more on debt).  While there are many ways to measure profitability, one widely used indicator that can be found on most stock screens is return on equity (ROE).  For ROE, the higher the better.  The minimum ROE we want is in the 10% to 12% range.  Another great indicator for profitability that is available on many stock screeners is earnings per share (EPS) – again, the higher the better for this indicator too.

Debt – Many of the best dividend stocks are from companies that are large, mature, and have accumulated long term debt during the process of growing into their current state.  The problem with debt is that too much of it can represent a risk to future dividend payments if the company goes into a rough patch, and earnings drop to the point where they may need the money they normally pay out as dividends to service their debt payments.  One easy way to measure debt is to look at the debt to equity ratio.  For our purposes, we would like to see the company financed with more equity than debt, which means that our dividend stock screener would need to limit the debt to equity ratio to less than .5, and ideally, you should look for stocks with a ratio even lower than that.

Market Cap – Also known as the market capitalization of a company, is a good way to filter the size of the company you are looking for.  Market cap is just the total number of shares outstanding, multiplied by the current price of the stock.  Most analysts use this as the measure of a company’s size.  For our dividend investing purposes, we want strong stable companies, and bigger companies are generally safer than smaller ones, so for market cap, select stocks that are at least $2 Billion. 

Valuation – This is how much the market is paying for a company’s earnings stream.  For this, we actually want a low valuation, because that usually means that a company’s stock price has been beaten down relative to it’s earnings.  The price to earnings ratio (P/E) is a widely available indicator that can help you assess valuation on a free dividend stock screener.

A couple of free dividend stock screeners that you can try to help you find the best dividend stocks are at MSN.COM and FINVIZ.COM.

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Stocks that pay dividends can be a good alternative for investors either seeking regular income from their investment portfolio, or more consistent returns from their stock investments.  An investment in stocks that produce consistent dividends can be an ongoing source of profits for your portfolio.  These are some of the characteristics that these income producing investments provide:

1. Stocks that pay dividends can represent a single company, or they can be many companies under the organizational structure of a holding company, trust, closed end mutual fund, ETF, etc.  It is important to note that a majority of companies do not qualify for dividend investing for the simple reason that they do not pay dividends.
2. Companies that pay dividends do so because their management teams and boards of directors make a conscious, regular, and most importantly – discretionary – decision to pay their shareholders a dividend.  While most companies do this quarterly, there are many stocks that pay monthly dividends.
3. Dividend stocks typically have policies in place that promote the ongoing payment of dividends.  So while the decision to pay a dividend is at the discretion of the management team and board of directors, they typically have a goal of managing the company in a way that preserves, protects, and in many cases, grows the dividend income streams for their shareholders over time.
4. In many cases, stocks that pay dividends represent companies that are large, and more established (i.e. they have been around for a while).  These companies have created consistent, stable cash flows with very predictable earnings.  For example, utilities are a great type of stock that pays a dividend, they have a steady, predictable, source of income, expenses that are understood (and that can usually be passed along to their customers if expenses go up unexpectedly), which leads to a stable source of profits to pay dividends with.
5. Stocks in general are volatile, but stocks that pay dividends are usually lower in volatility than the overall stock market.  This is because investors are confident enough in the earnings of these companies, and the income they produce on a regular basis for their shareholders, that they reward this stability with lower price volatility, due to the justified view that these stocks are safer than average.
6. There are also tax advantages to owning dividend paying stocks.  Capital gains only trigger a taxable event when these stocks are sold, just like regular stocks.  The key tax advantage is that right now, the maximum federal income tax rate for dividends is only 15%.  This tax rate is lower than the tax rate you pay on bond interest, which is usually taxed at the same rate as your salary.  15% is typically much lower than your marginal tax rate for other sources of income.

As you can see, stocks that pay dividends have characteristics that set them apart from the overall stock market.  These income producing stocks may have a place in your investment portfolio.

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While you have probably heard about stocks that pay dividends every quarter, did you know that there are many stocks that pay monthly dividends?  When many income investors think about investing for dividends, they naturally look at safe, stable companies like McDonald’s(MCD), Proctor & Gamble(PG), and IBM (IBM), which have a long history of paying quarterly dividends.  These types of dividend stocks are usually financially stable, have a lot of liquidity so they are easy to buy and sell, and have enough income and cash reserves to cover their dividend payouts to investors every three months.

There are a couple of issues that investors in these type of quarterly dividend stocks should consider.  First, the investors income stream is exposed to a single company for each stock that they own, and second, depending on the mix of stocks in the investors portfolio, the dividend income can be very lumpy (i.e. most of the dividend money arrives in one month of the quarter, leaving the remaining two months with very little cash coming in.

Stocks that pay monthly dividends are an alternative that can provide regular, consistent, income to investors, and overcome the two main issues highlighted above.

First, monthly dividend stocks are typically traded on regular stock exchanges, and have enough liquidity for investors to easily buy and sell them.  Stocks that pay monthly dividends are usually trusts, closed end mutual funds, and other investment vehicles that actually own a portfolio of income producing assets.  This benefits investors because they get the diversification of the underlying portfolio owned by these companies, so investors are not as exposed to single company risk as they would be if they owned a single company that paid a quarterly dividend.

Second, since the income stream from stocks that pay monthly dividends comes three times as often as the cash flow from their quarterly brethren, the income is not going to be as lumpy.  This is a significant benefit for investors that need regular income, like retirees that need a passive source of retirement income to meet their monthly needs. 

One of the obvious items that investors considering purchasing stocks that pay monthly dividends over a company that pays a quarterly dividend is understanding the assets that are held by the monthly dividend company.  While this adds an extra research item, it is very easy to find this information in the standard government filings that publicly traded companies have to file with the SEC.

Stocks that pay monthly dividends are a great tool for people looking for consistent regular income.  Since these stocks may be new to you, just click on this link for a list of monthly dividend stocks.

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Income investors looking for a good return on their investment often look for the highest dividend stocks, or more precisely, the highest yielding dividend stocks.  This can also be a good place for value investors to look for potential buy candidates because high dividend yields can be caused by a stock price being temporarily low (i.e. undervalued stocks), which simultaneously raises the yield.  However, the highest dividend stocks can also be a dangerous place to find buy candidates.

Normally when income investors are looking for dividends stocks, they are looking at monthly dividend stocks or stocks that pay dividends quarterly with the highest yield (adjusted for risk).  The issue with the highest dividend stocks on the top dividend stock list is that they are usually amongst the most risky stocks a conservative income investor will look at.  Many of these stocks have high dividend yields because the underlying stock price has fallen, while the dividend payment is presumably staying the same, giving the appearance of a high yield.  Stocks with high dividends should raise a flag with any income investor to be extra diligent doing their homework.  The biggest question you’ll need to ask yourself is whether or not the dividend is safe?

The first thing an income investor should screen for in stocks paying dividends is whether or not the stock is consistently profitable.  As they say on Wall Street, profits drive dividends, and many times, stocks with high dividends are also losing money – their dividends place them on the highest dividend stocks list because of the additional risk.

Another attribute that you should look for in profitable top dividend stocks is how well their earnings cover their dividends – also known as the dividend payout ratio.  Ideally, you want to see a stock paying out less than 50% of it’s earnings as dividends.  If the high dividend stocks you are looking at have a dividend payout ratio of 50% or less, the dividend has a higher probability of being safe – in other words it is less likely to be reduced or cancelled.

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A list of monthly dividend stocks is sometimes hard to find, so I’ve compiled a list of stocks with monthly dividends here.  Monthly dividend stocks can be useful for people who are trying to smooth out the dividend income from there investments over all of the months in a quarter.  This helps counter the affect of having a lot of dividend paying stocks that pay quarterly dividends in one particular month of a quarter, leaving the rest of the months in the quarter without much dividend income.  Here is the list of monthly dividend stocks that I’ve found so far, if you know of others, please email me, so I can add them to the list for everybody to see.

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Monthly dividend stocks can be a good idea for income investors to create a steady income stream.  If you are looking for regular income, you may want to consider monthly dividend stocks.  Thats right, there are stocks that pay monthly dividends.  These monthly dividend stocks are just like their quarterly dividend stock brethren, but they pay out their dividends – you guessed it – on a monthly basis.

Many people interested in income investing have stocks that pay quarterly dividends in their portfolio, as these are the most common type of dividend paying stocks.  Depending on the dividend payment dates, this can lead to inconsistent monthly income – for example you get a lot of dividend income in the first month of the quarter, and very little dividend income in the last month of the quarter.  One way to smooth this out is to buy stocks that issue dividends in different months of the quarter.  Another way to set up a more steady income stream is to put monthly dividend stocks in your portfolio.

Most stocks that pay monthly dividends are investment trusts, closed end funds,  or holding companies that own many income producing securities, that issue the income from these investments in the form of  a monthly dividend.  The list of monthly dividend stocks is nearly 300 long.

Adding stocks with a monthly dividend payment can help smooth out the monthly income in your portfolio.  Click on the link above for a list of monthly dividend stocks.

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Dividend investing is for people seeking income from their investments, who are also willing to take on a little more market risk than bonds offer in order to try to achieve growth in both their principal and the dividend income provided by their dividend stocks, not just by chasing the highest dividend stocks.  A successful dividend investor knows that this strategy can help them stay ahead of inflation.

One of the first steps in dividend investing is identifying companies that are in a position to not only maintain the dividend that they are paying out to their dividend investor base, but can also as a dividend growth stock opportunity.  A good way to determine if a stock fits this criteria is to look at it’s dividend payout ratio.

Dividend Payout Ratio

The dividend payout ratio can be calculated in a number of ways, so we’ll look at two of them and let you decide which one to use for your dividend investing screens (my favorite dividend payout ratio calculation is the second one).

The most popular way is calculated by dividing the annual dividend a company pays out per share by it’s annual earnings per share.

Dividend Payout Ratio = Annual Dividend Per Share / Annual Earnings Per Share

These numbers are readily available at most popular financial web sites, and can be included in dividend investing screens at sites like MSN Money.  Using this version of dividend payout ratio calculation, a level of 50% or lower is considered good.  So, this calculation is pretty easy, and the data is readily available, but for good dividend investing principals, it has a flaw…

The problem with the above calculation is that EPS has some noise embedded in it that can mis-lead a dividend investor into buying a company that is not a dividend growth stock candidate.  In my view, good dividend investing stocks’ dividends need to be paid out of the ongoing cash operating profits a company generates, and due to  GAAP accounting rules, EPS contains more than this.  For dividend investing, it is better to use annual free cash flow (FCF) instead of EPS in the dividend payout ratio calculation.

Since free cash flow takes into account both expenses and capital outlays, it shows how much cash is left over from company operations to apply to dividend payouts.  With the inherent noise in EPS taken out of the dividend payout ratio calculation, a level of 60% – 65% or lower can be considered good for dividend investing (obviously lower is better in either method of calculating dividend payout ratio).

Dividend investing can be a profitable endeavor when you use the right tools.  If you’re a dividend investor, please leave a comment on how you screen for good dividend stocks.

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