The toughest problem retirees face in today’s financial markets is how to get a decent yield on our savings. In the old days we could put money in the bank, draw 5 percent interest, and live off the proceeds. Not anymore.
Interest rates have actually gone up a little in the past year. But still, a 5-year Treasury bill pays only 1.6 percent interest. A 5-year bank CD offers less than 2 percent. An intermediate-term corporate bond or bond mutual fund might yield 3 percent, but bonds leave you helpless against inflation.
Other investments can provide better paybacks, but there's always a tradeoff. Master Limited Partnerships, for example, can cast off high yields, but they subject you to a complex tax situation. An annuity can also pay more, but generally does not protect against inflation.
So what about high-dividend stocks? This is not a new idea, and many of the shares have already been bid up by investors, perhaps limiting future returns. But several areas of the market still offer relatively stable stocks with inflation-beating dividends.
Consumer staples. We all go to the supermarket to buy shampoo, toothpaste and cleaning supplies. Proctor & Gamble (PG) squeezes out a 3.2 percent dividend. Clorox (CLX), the bleach maker, also pays 3.2 percent. Warren Buffett's favorite stock, Coca Cola (KO), pours out a slightly-less-bubbly 3 percent. And do you ever go to McDonalds? The company serves up a 3.5 percent dividend. Are these stocks a good bet? Yes. But remember, you're still betting.
Energy. Americans are well aware of the hazards of oil production, from environmental concerns to disruptions in the Mideast. But we need fuel to power our cars and heat our homes, and some of the big energy companies offer decent dividends. Chevron, the second-largest U.S. oil company, yields 3.6 percent. Conoco (COP) yields 4.3 percent. Energy companies boost their appeal by providing a well-recognized hedge against inflation. A good bet? Probably as good as you'll find.
Health care. Johnson & Johnson (JNJ), Merck (MRK) and Pfizer (PFE) are big, established companies that sell prescriptions, over-the-counter medications and in some cases medical devices. They all pay better than 3 percent dividends. And despite the uncertainties of expiring patents and the Affordable Care Act, one could argue that as long as we need medical care, these companies will remain healthy. A good bet? Probably.
Telephone. Verizon (VZ) and AT&T (T) ring up solid dividends – 4.6 percent for VZ and 5.7 percent for T. (Full disclosure: I own small amounts of these telecom stocks.) Both companies generate plenty of cash. But they are facing price pressures from consumers, even while they are forced to make heavy investments to upgrade their networks. Are the dividends safe? Most likely. Are the stocks a good bet? Your guess is as good as mine.
Utilities. Electric companies traditionally power up retiree incomes. Duke Energy (DUK), Southern Company (SO) and American Electric Power (AEP) all deliver dividends over 4 percent. But most utility stocks have suffered in the past year as interest rates have risen, revealing their weakness: when interest rates go up, these shares go down. A good bet? Only if you think interest rates are not going any higher.
Individual stocks present their own risks, so for many of us an ETF or mutual fund containing high-dividend stocks promises a safer opportunity. For example, Vanguard offers ETFs that cover each of these five sectors, as well as a more general High Dividend Yield mutual fund (VHDYX) with a 2.8 percent dividend payout. Most other major mutual fund companies have their own versions of high-dividend stock funds.
Make no mistake, dividend stocks do expose you to the risks of the market, which can be considerable. Nevertheless, high-paying stocks offer better payouts than bank CDs or government bonds – and should probably form at least a portion of most retirees' portfolios.
Tom Sightings is a former publishing executive who was eased into early retirement in his mid-50s. He lives in the New York area and blogs at Sightings at 60, where he covers health, finance, retirement and other concerns of baby boomers who realize that somehow they have grown up.