Best 5 Dividend Stocks of the Dow 30

Best 5 Dividend Stocks of the Dow 30Blue chip companies in the DJIA, with proven earnings power and consistent dividend growth, are some of the best dividend plays out there. They are usually leaders in their industries—the companies that boast strong balance sheets and lower operating risk than other stocks and the market as a whole. The index consists of 30 large-cap stocks that pay dividends. The index as a whole has the average dividend yield of 2.7% as of November 29, 2012. The telecommunications giant AT&T Inc. (NYSE:T) pays the highest dividend yield of the DJIA constituents, with its yield double that of the average for the index as a whole. Among the DJIA members, The Procter & Gamble Company (NYSE:PG), 3M Co (NYSE:MMM), The Coca-Cola Company (NYSE:KO), and Johnson & Johnson (NYSE:JNJ) have raised dividends for at least 50 consecutive years.

We have evaluated five DJIA constituents with dividend yields at or above the index average, track record of strong earnings power and dividend growth, the outperformance relative to peers in terms of total returns, and a better position than peers’ to boost dividends in the future. Here is a closer look at “the best” five dividend stocks of the Dow 30 based on the aforementioned criteria.

McDonald’s Corporation (NYSE:MCD), the world’s largest chain of fast food restaurants, has raised dividends for 36 consecutive years, through recessions, wars, currency and financial crises, an oil shock, and a near depression. It currently pays a dividend yield of 3.6%, well above the dividend yields of 1.0% for Burger King Worldwide Inc (NYSE:BKW) and 1.8% for rival Yum! Brands, Inc. (NYSE:YUM). McDonald’s stock has raised dividends at a rate of almost 14% per year over the past five years, generating total returns of 11.6% per year over the same period. Over the past half decade, its EPS grew at 18.1% per year. Analysts expect the company to realize a lower EPS growth of about 9.0% per year for the next five years. With a payout ratio of 58% and continued growth in EPS, additional dividend increases, possibly somewhat more moderate than in the past, are expected in the future. The stock has a high ROE of 40%. In October, McDonalds reported weak same-store sales in all geographical regions, reflecting an extended weakness in the labor markets that is weighing on discretionary spending. Still, over the long run, the restaurant chain will benefit from emerging market growth and the expansion of product and service offerings. In terms of valuation, on a forward P/E of 15.3, the stock is trading at a discount to its respective industry. In the third quarter, Bill & Melinda Gates Foundation Trust (check out its top positions) initiated a new position in the stock worth more than $905 million.

Chevron Corporation (NYSE:CVX), a $206-billion integrated oil and natural gas giant, has raised dividends for 24 years in a row, a year away from becoming a dividend aristocrat. Chevron currently pays a dividend yield of 3.4% on a low payout ratio of 30%. Its peers Exxon Mobil Corporation (NYSE:XOM), another DJIA constituent, and ConocoPhillips (NYSE:COP) yield 2.6% and 4.6%, respectively. Chevron has raised dividends, on average, by 9.2% per year over the past five years. In terms of total returns, the stock has returned 7.4% annually over the same period. Its EPS expanded at 11.5% annually over the past half decade. Analysts forecast that the energy giant’s EPS will be flat for the next five years, due to anticipated lower output and oil prices. Still, the company has little long-term debt, some 9% of its equity, and plenty of cash at hand. With nearly $11 per share in cash and equivalents, this company is committed to maintaining high liquidity in order to mitigate possible oil price volatility and cost overruns at capacity expansion projects. Future dividend boosts are almost certain. The stock has a ROE of 19%. As regards its valuation, the stock is trading on a forward P/E of 8.7, a discount to its respective industry and its larger competitor Exxon Mobil. The stock is popular with value investors Ken Fisher and Stanley Druckenmiller (check out his largest holdings).

The Coca Cola Company, the world’s most popular beverages company, has been boosting dividends for 50 consecutive years, through both economic growth and adversity. The company’s stock currently pays a dividend yield of 2.7%, on par with the DJIA average yield. The company’s payout ratio is 53%. Its rivals PepsiCo, Inc. (NYSE:PEP) and Dr Pepper Snapple Group Inc. (NYSE:DPS) have higher dividend yields of 3.1% and 3.0%, respectively. The Coca-Cola Company’s dividends increased at a rate of 8.5% annually over the past five years, while its stock realized total returns of 7.3% per year over the same period. At the same time, EPS growth averaged 11.3% per year. Analysts expect the company’s EPS to continue growing at about 8.2%, annually, well above the pace of growth of the global economy. In addition to dividends, the company has been returning capital to its shareholders through stock buybacks. In October, the company announced a plan to repurchase up to 500 million of its own shares (11% of total shares outstanding), worth almost $19 billion. Not only will this prop up the company’s EPS growth, but will also support the company’s stock prices. The company is implementing productivity initiatives to boost profitability. Its presence in emerging markets, which account for 20% of the company’s sales, will rise in the future due to a forecast robust expansion in those markets. The stock has a high ROE of 26.5%. In terms of valuation, the stock boasts a forward P/E of 17.8, on par with the soft drinks industry. However, the stock carries a small premium relative to PepsiCo (forward P/E of 16.4). Warren Buffett and Bill & Melinda Gates Foundation Trust are big fans of the stock.

Wal-Mart Stores, Inc. (NYSE:WMT), the world’s largest retailer and a dividend aristocrat, has raised dividends every year since initiating a dividend in 1974. The company is currently yielding 2.3% on a payout ratio of 33%. Its smaller competitor Target Corporation (NYSE:TGT) pays the same dividend yield, while Costco Wholesale Corporation (NASDAQ:COST) yields only 1.1%. Wal-Mart’s dividends have increased 13.5% per year over the past five years, while its total return averaged 10.6% annually over the same period. Wal-Mart’s EPS grew by 9.2% per year over the past half decade. The company’s EPS is forecast to expand by 9.4% per year for the next five years. Wal-Mart is a major value play and one of the largest holdings in legendary investor Warren Buffett’s portfolio. He owns more than $3.4 billion in the stock. The company has a wide international presence, and is benefiting from the trend of rising incomes in emerging markets. A new trend of customers’ constant pursuit of value deals and bargain hunting is boosting the company’s performance. Wal-Mart’s stock has a high ROE of 24%. The stock has a forward P/E of 13.6, trading almost on par with Target Co. (forward P/E of 13.5) but at a discount to its respective industry (forward P/E of 14.7) and Costco (forward P/E of 22.6). Bill & Melinda Gates Foundation Trust bought as much as a $782-million worth of the company’s shares.

International Business Machines Corp. (NYSE:IBM), the IT bellwether with a market capitalization of $215 billion, has increased dividends every year in the past 17 years. Currently, the stock pays a dividend yield of 1.8% on a low payout ratio of 24%. Competitors Accenture Plc (NYSE:ACN), Hewlett-Packard Company (NYSE:HPQ), and Microsoft Corporation (NASDAQ:MSFT) are paying higher dividend yields of 2.4%, 4.1%, and 3.4%, respectively. IBM grew dividends by 17% per year over the past five years, achieving total returns of 14.8% annually. Over the same period, the company’s EPS expanded at a rate of 16.6% per year. EPS growth is expected to average about 10% annually for the next five years, although the company is experiencing some headwinds in the near term due to weaker IT spending amid sluggish economic growth. IBM has boosted its presence in the higher margin areas, which in recent years has helped the company grow its bottom line faster than many of its peers. IBM’s increased presence in emerging markets will bode well for its future growth. The company has $10.5 per share in cash and equivalents and a free cash flow yield of 5.5%. With a low dividend payout ratio and relatively strong EPS growth, along with strong free cash flow accumulation, IBM is expected to continue bolstering dividends in the future. The stock is a value play. Its ROE is 74%. In terms of valuation, its forward P/E is 11.8, below the overall computer services industry (with an average forward P/E of 14.9). Still, on this basis, it is pricier than Microsoft and HP, although HP is generally considered a value trap. Berkshire Hathaway’s Warren Buffett owns more than $14 billion in IBM’s stock, which represents 18.6% of Berkshire Hathaway’s portfolio.