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A steady stream of dividends can make you wealthy. Photo: Maura Teague, Flickr
It's smart to seek out dividend-paying stocks, as they can reward you in both up and down markets. It's also smart to seek out undervalued stocks, as they offer a margin of safety and are likely to rise closer to their intrinsic value over time. Best of all, though, are dividend-paying stocks that are also compellingly priced.
Here are three contenders for your portfolio:
Dan Caplinger: The energy sector has taken a big hit lately, and even integrated oil giant Chevron has watched its stock drop in value along with the recent fall in crude oil prices. Chevron has substantial upstream operations that rely on a steady flow of exploration and production activity, and to keep up its massive production volumes, Chevron has historically needed to keep its development pipeline full of new prospects. With crude oil prices having fallen so far, the number of financially viable projects Chevron can pursue has fallen, and that will almost certainly lead to ugly results in 2015.
The big question, though, is whether oil will stay at current depressed levels over the long run. If oil bounces back soon then Chevron should be able to recover relatively quickly, and might even benefit from taking advantage of companies in worse financial shape to pick up some distressed assets at bargain prices. Chevron also has extensive downstream assets, with refinery operations that benefit from lower prices and the resulting higher demand.
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Chevron's current earnings multiple of 10 is misleading, given that forward earnings are likely to fall substantially. Yet with a 4% dividend, Chevron shareholders will enjoy substantial income while they wait for a rebound, and with shares having lost a quarter of their value already, the oil giant has a considerable margin of safety for long-term investors to rely on going forward.
: High-yield business development companies have slowly rebounded from their lows in December, but the industry still offers a few compelling bargains. One of the best might be Ares Capital Corporation (NASDAQ: ARCC), which yields just over 9% when special dividends are included.
The company invests in speculative, high-yield debt, mostly in privately held companies, and it has proven to be an excellent underwriter and risk manager over its history. Its top-shelf record affords it many advantages over its peers. Most notably, it borrows money at a significantly lower rate than its competitors, which means it can match competitors' returns with lower-yielding, lower-risk investments.
In addition, the company's scale gives it insight into the market that its competitors simply don't have. Seeing more deals means it can afford to be more selective about the deals in which it decides to invest. For these reasons, Ares Capital might just be one of the best 9% yields you can find in the market today.
: For significant dividend payouts and the promise of growth, I favor General Electric , which recently yielded 3.6%, with its payout ratio -- the portion of earnings per share paid out in dividends -- close to 60%. That reflects plenty of room for dividend growth, and after having been slashed in 2009 during the credit crisis, General Electric's dividend has been growing steadily, rising 35% over the past three years.
The company has struggled in recent years, but is in the process of reshaping itself as more of an industrial infrastructure company, shedding finance and appliance units. Its annual free cash flow is well below decade-ago levels, but is still prodigious at near $14 billion. Gross margins have shrunk lately, but GE has been getting more efficient, and its net margins have been rising, recently sitting above 10%. One of its biggest businesses is energy, and the company that traces its roots all the way back to Thomas Edison has many profitable operationsin the field, such as grid modernization, ultra-efficient gas turbines, massive wind turbines, and even nuclear power plants. General Electric is also modernizingfactories with 3-D printing, laser inspection tools, and the flexibility to produce different products.
GE has acquired the energy assets of French conglomerateAlstom, which might seem less than wonderful given the recent plunge in the price of oil. Long-term, though, it seems a great fit, with CEO Jeff Immelt citing "$60 billion in growth markets" for the combined businesses. General Electric's stock seems attractively valued, too, recently sporting a P/E ratio near 17 but a forward-looking one of only 13.4, well belowits five-year average of 16.4.
Whether you select one or more of these stocks or some others, consider adding some undervalued dividend payers to your portfolio for income and growth.
The article 3 Cheap Stocks that Pay Huge Dividends originally appeared on Fool.com.
Dan Caplinger owns shares of General Electric Company. Jordan Wathen has no position in any stocks mentioned. Selena Maranjian owns shares of General Electric Company. The Motley Fool recommends Chevron. The Motley Fool owns shares of General Electric Company. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.
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