As the economy continues to improve, it's pretty clear that the Fed will curb its buying of securities to signal a change in interest rate policy. The very mention of this has caused Treasury yields to increase, but let's not get ahead of ourselves.
Although interest rates have risen lately, we shouldn't project this trend to continue at the same rapid rate. I think the pace will slow, as the Fed takes specific action over the next several months.
Many investors have reacted to the possibility of higher rates by selling REIT stocks, bonds and dividend stocks. Apparently some think that higher rates obviate the need for holding income-related stocks. I couldn't disagree more. While the eventual market for higher yielding bonds may come, that does not take away the current attractiveness of high paying dividend stocks.
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There are a number of rational, opportunistic ways investors should react to a Fed that may "take the foot off the gas" rather than "hit the brake." (Remember the Fed has yet to change anything at this point. Bernanke has merely reminded us that he has the ability to accelerate, decelerate or make no changes at all in market purchases.)
A healthy way to react to this possible shift in Fed policy is to stay with your original program that you have presumably formulated with a long-term investment horizon in mind. Such a program should always allow you to tinker with the boundaries of your discipline.
For example, I continue to manage portfolios with the same discipline as always, but presently I have an additional eye toward some of my favorite dividend stocks that may go on sale as a result of the current confusion about the Fed's intentions. I've always liked stocks with high quality balance sheets that pay increasing dividends, and if I can buy them at reasonable prices, I usually jump right in.
Some investors are getting inappropriately caught up in the emotions of rising rates. If you've only bought dividend stocks to offset the very low income rates that bonds offered, you're only getting half the story. True, there was no other place to find higher income when rates were expected to remain low, but dividend stocks also offer the potential of a rising dividend. Think of it as if each stock had its own "Fed" raising the dividend rate the company must pay out to shareholders.
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You should look for dividend paying stocks that have a rising trend and the financial strength to make the increases without causing the company additional financial stress. In addition, I suggest you run any dividend stock candidate through my dividend integrity index concept on Forbes. It is a useful check to see if the dividend payout ratio is compatible with the rate of dividend increases.
Here are several of my favorite portfolio holdings that are still attractive regardless of how high interest rates rise:
People's United Financial (PBCT). With a dividend yield of 4.2% this mid-sized New England based bank has raised its dividend for the past five years. The possibility of higher interest rates could be a positive for PBCT since it may allow the bank to increase its net interest margin. People's has been slowly growing its geographic footprint and may well be an acquisition target as big players may pursue banks like this to grow.
Another stock I like is Tronox Tronox. This spinoff from Kerr-McGee has had its warts, and emerged from bankruptcy back in 2011. TROX makes specialty chemical pigments that are used in everyday consumer applications such as paints and plastics. Although it doesn't have a long history of dividend payments, prospects for the company's products look bright as the economy continues to improve. Best of all it is paying a hefty 4.6% yield.
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