Dividend stocks can help lower your risk. Many are bargains right now.

By Philip van Doorn

Ben Kirby of Thornburg Investment Management says the timing is right for diversifying your stock-market exposure with high-dividend payers

Investment advisers always tell their clients that it is best to have diversified portfolios. But a typical index fund is highly concentrated in a small number of companies, because most stock indexes are weighted by market capitalization. This has worked out well over the past 10 years as shares of tech-oriented giants have soared, but sometimes dividend-paying stocks outperform.

Ben Kirby is the co-head of investments at Thornburg Investment Management, which oversees about $44 billion in client accounts and mutual funds. During an interview with MarketWatch, he said that dividend-paying stocks had become especially attractive relative to growth stocks. He provided this chart to illustrate the point:

This chart compares weighted forward price-to-earnings valuations of the MSCI World High Dividend Yield Index and the MSCI World Growth Index. Both indexes are subsets of the MSCI World Index, which includes large and midcap stocks in 23 developed economies. You can read about MSCI's methodology for the World High Dividend Yield Index here and for the World Growth Index here.

Kirby said that "the dividend yield index is usually at a discount of 25% to 30% to the growth index." He called the 47% discount at the end of May "shocking."

This deep discount for the MSCI World High Dividend Yield Index relative to the MSCI World Growth Index reflects their performance - the former has returned 116% over the past 10 years, while the latter has soared 256% during the same period, according to FactSet.

But the growth focus doesn't always work this well. For the previous 10-year period through June 11, 2014, the MSCI World High Dividend Yield Index returned 117%, while the MSCI World Growth Index returned 98%.

A global approach to income and growth

Kirby co-manages the $13.1 billion Thornburg Investment Income Builder Fund TIBIX, designed to grow its dividend payouts over the long term, while also providing capital growth. Here is how it was allocated by asset class as of April 30:

   Asset class                      % of portfolio 
   Non-U.S. stocks                           58.9% 
   U.S. stocks                               26.0% 
   Bonds issued in the U.S.                   8.7% 
   Bonds issued outside the U.S.              2.7% 
   Cash and cash equivalents                  3.7% 
                                 Source: Thornburg 

For the typical U.S. investor, this fund is truly diversified, not only by asset class but by region. And Kirby pointed out that none of the "Magnificent Seven" stocks are held in the portfolio. These are the companies that have factored so heavily in the S&P 500's SPX stellar returns over recent years. They include Microsoft Corp. (MSFT), Apple Inc. (AAPL), Nvidia Corp. (NVDA), Amazon.com Inc. (AMZN), Meta Platforms Inc. (META), Alphabet Inc. (GOOGL) (GOOG) and Tesla Inc. Together these companies make up 31.9% of the SPDR S&P 500 ETF Trust's SPY portfolio.

That is a lot of concentration in only seven companies, and the potential concentration risk has been illustrated by Tesla, which has fallen 31.3% so far this year, even as the S&P 500 has returned 13.4%.

The Thornburg Investment Income Builder Fund quotes a 30-day yield of 3.49%. It distributes dividends quarterly, and while it may be typical to reinvest the dividends, a long-term shareholder might find it convenient eventually to begin taking the income. Kirby said the fund's dividend had grown at a compound annual growth rate (CAGR) of about 4% over the past 20 years.

One obvious question for the manager of a fund seeking to increase investors' income is why it holds bonds at all, since fixed payments don't increase.

Kirby said that the fund's bond portfolio, about evenly split between investment-grade bonds and high-yield bonds, had a yield-to-worst of about 8%. (Yield-to-worst factors-in the premium or discount to a bond's face value when it is purchased, and its maturity date or call date.)

In addition to enhancing the fund's current dividend yield, a fluid bond allocation strategy enables the fund to take advantage of special situations, such as the tremendous decline in market values for bonds during the 2008/2009 credit crisis. During that period, Kirby and his colleagues increased the fund's bond allocation up to 45%. The current allocation to bonds is 11.4%. The 3.7% allocation to cash is higher than usual, to take advantage of the current environment of high short-term interest rates, he said.

Top equity holdings

Kirby said that the fund's annual turnover has typically been 25% to 30%, which would imply a four-year holding period for investments on average. But he would like to hold a stock much longer if a company's financial performance is solid, if it is expected to continue increasing its dividend and if its valuation to expected earnings isn't too high.

The fund doesn't only focus on companies with stellar track records for dividend increases. Its managers will also invest in stocks that appear to have good values, with expected cash flow to cover rising dividends. They might do this even if a company's recent history hasn't been so good. A look at the fund's top 10 U.S. stockholdings provides examples of both. There is too much relevant data to fit into one table, so here are two, followed by explanations of the data and Kirby's comments on two of the companies:

   Company                        Ticker   % of Thornburg Investment Income Builder Fund as of April 30  Current dividend yield  Dividend yield 5 years ago  Dividend yield on shares purchased 5 years ago 
   Broadcom Inc.                   AVGO                                                            3.8%                   1.44%                       3.74%                                           7.41% 
   Citigroup Inc.                   C                                                              2.9%                   3.58%                       2.65%                                           3.12% 
   AT&T Inc.                        T                                                              2.7%                   6.22%                       8.41%                                           4.58% 
   CME Group Inc. Class A          CME                                                             2.0%                   2.32%                       1.51%                                           2.31% 
   Merck & Co. Inc.                MRK                                                             1.9%                   2.34%                       2.78%                                           3.89% 
   JPMorgan Chase & Co.            JPM                                                             1.6%                   2.37%                       2.89%                                           4.16% 
   Equitable Holdings Inc.         EQH                                                             1.5%                   2.37%                       2.81%                                           4.50% 
   Pfizer Inc.                     PFE                                                             1.5%                   5.99%                       3.56%                                           4.16% 
   LyondellBasell Industries NV    LYB                                                             1.5%                   5.56%                       4.97%                                           6.34% 
   Home Depot Inc.                  HD                                                             1.3%                   2.68%                       2.75%                                           4.55% 
                                                                                                                                                                                Sources: Thornburg, FactSet 
   Company                        Ticker   five-year Dividend change  Five-year dividend CAGR  5-year price change  5-year total return 
   Broadcom Inc.                   AVGO                          98%                    14.7%                 415%                 506% 
   Citigroup Inc.                   C                            18%                     3.3%                 -13%                   5% 
   AT&T Inc.                        T                           -46%                   -11.5%                 -26%                   2% 
   CME Group Inc. Class A          CME                           53%                     8.9%                   0%                  21% 
   Merck & Co. Inc.                MRK                           40%                     7.0%                  67%                  94% 
   JPMorgan Chase & Co.            JPM                           44%                     7.5%                  76%                 104% 
   Equitable Holdings Inc.         EQH                           60%                     9.9%                  90%                 117% 
   Pfizer Inc.                     PFE                           17%                     3.1%                 -31%                 -15% 
   LyondellBasell Industries NV    LYB                           28%                     5.0%                  14%                  54% 
   Home Depot Inc.                  HD                           65%                    10.6%                  70%                  91% 
                                                                                                                        Source: FactSet 

The first table shows current dividend yields, which in many cases aren't very high. They may also be lower than the yields were five years ago. But Broadcom Inc. (AVGO), the fund's largest holding, provides an example of how rewarding it can be to remain committed to a company that steadily raises its dividend payout.

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06-15-24 0631ET

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