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By Jeremy Glaser | 12-08-2010 06:00 AM

The Biggest Dividend Story

Probably in the first quarter, we're going to see the first major round of dividend increases from the country's big banks that have returned to profitability, says Morningstar's Josh Peters.

Jeremy Glaser: For Morningstar.com I'm Jeremy Glaser.

It's Ideas Week, and we're taking a look at some our best ideas for the end of 2010 and into 2011.

I am joined today by Josh Peters, editor of Morningstar DividendInvestor, to give us his take on the dividend market next year and what some of his best ideas are.

Josh, thanks for joining me.

Josh Peters: Good to be here, Jeremy.

Glaser: So, let's just take the broader picture first. Where do you see dividend increases in general, and how do you see dividend stocks performing over the next 12 months?

Peters: Well, it kind of breaks down into high-yield, low-yield. What we've had this year has been actually quite good performance from some of the higher-yielding stocks, because interest rates have been low and continuing to drop, at least up until very recently, and that has made income streams more valuable just about everywhere you find them.

People have chased some of the higher-yielding stocks into territory where they still provide above-average yields, but the total return potential down the road may not be so great. If the economy continues to recover into next year, we might see yields on 10-year Treasury bonds, which have already gone from 2.5% to 3%; maybe they head up to 3.5% or 4%.

I wouldn't expect to see a whole lot of outperformance by higher-yielding stocks in that kind of environment. In fact, since most of those stocks are pretty conservative businesses anyway, they are not going to benefit a lot from an economic recovery. They may be in for some underperformance. I don't think that's a reason to sell them, because I don't know what's going to happen; I want to guard against short-term problems, and I also want to think long-term, but I wouldn't be thinking in terms of big outperformance.

I think the biggest dividend story is going to come from what are now some very low-yielding stocks in the banking sector. Probably in the first quarter, we're going to see the first major round of dividend increases from the big banks in this country that have returned to profitability, have now acceptable capital positions, are continuing to grow their capital. I am not exactly sure how large they will be, but in terms of growth, will the dividend double or triple, could it quadruple? I mean we are looking at a significant comeback, whatever it happens to be.

Glaser: So, if you are thinking about individual best ideas, what are some that are on your radar screen?

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