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Josh Peters' Dividend Hunting Grounds

Jeremy Glaser

Jeremy Glaser: I'm Jeremy Glaser with Morningstar.com. It's Ideas Week, and I'm here today with Josh Peters, editor of Morningstar DividendInvestor, to talk about his top dividend picks for 2010. Josh, thanks for joining me.

Josh Peters: Happy to be here.

Glaser: For investors looking into the new year, what are some of the things that they might want to consider for a dividend portfolio?

Peters: I think that it's the same basics that are in place for most years. You want to find good companies, good businesses, that are capable of paying out an adequate dividend. I'd put that at anywhere from 2% or better, preferably 3% or better for current yield. And that the business is in a position to grow that dividend over time, both that the business is growing, so you've got the means, and management is willing to raise the dividend and has shown a track record of doing that.

Glaser: So what particular sectors do you think look attractive now for dividends?

Peters: I actually think this isn't such a great time to game the economy and be betting very strongly on a vigorous economic recovery. My favorite sectors right now are pretty defensive. I like some of the better health-care names. Abbott Laboratories is a good name that comes to mind, with about a 3% yield, close to a double-digit growth rate long-term for that business. Not a lot of patent exposure.

And as health-care reform finally works its way toward some eventual conclusion, that's going to lift a lot of uncertainty from the sector. I think people will start seeing these businesses for what they are again. This is a very good total return story that a lot of investors have overlooked this year.

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Glaser: What other names do you think could be interesting?

Peters: I also like utilities a lot. This is something that's a little bit newer for me. The first couple of years at the helm of DividendInvestor, I thought that utilities were too expensive. They are slow-growing businesses. If you're only getting a 3% or 4% dividend yield, you're probably paying too much for the stock.

These days you can find good regulated utilities with 5% to 6% yields. They're still going to have the same kind of 3% to 4% growth that they've always had, but you're getting a lot more income for you capital buck.

That's the kind of trade-off that I want to see. They can continue to maintain little bits of dividend growth even during a recession. They're stable businesses and aren't going anywhere. I think those are the kinds of areas of the market that you're going to want to be in, in the year to come.

Glaser: OK, great. Are there any--maybe one more pick that people might want to look at?

Peters: I have to label this up-front by saying I'm not any kind of a market-timer, I'm not somebody who tries to pick the tops and bottoms in stock prices. But I think anybody who pays attention to corporate fundamentals and especially valuations, will sometimes come up with the sense that there aren't a whole lot of bargains out there, and that maybe holding cash isn't such a bad idea.

Right now people think cash is trash because short-term interest rates are 0%. The idea of lending your money to the federal government for 10 years at the rate of 3% or 3.5% sounds crazy, with the inflation risks we might come to face.

But I'll tell you what, cash, every day it's worth 100 cents on the dollar of what you paid for it. And you can't always say that about stocks. I wouldn't be surprised if the market were to re-trench a little bit from here, just because prices seem to have run so far so fast, and beyond what I think the underlying fundamentals of the economy can support.

Glaser: So health-care and utilities look attractive, and for people looking to maybe make more of a contrarian play, holding cash for a little bit might not be the worst idea.

Peters: Yeah. I think especially if you're working with new money that you're putting to work in the stock market, I think it's a good idea to average in. That way you're not paying what's likely to be the highest possible price or the lowest possible price; you're averaging the money in over some time.

This isn't the kind of environment where I'd want to invest, let's say, a whole retirement portfolio in one big chunk. You've got to remember, the market's come an awful long way off the bottom. Perhaps it was deeply undervalued, but now you've still got to remember the basic backdrop. Historically dividend yields on the stock market were 3% to 6%.

Even with being down over the last couple of years, we're still only getting 2% dividend yields. Historically, that's low. It means stocks are expensive relative to the dividend income they provide. You've got to be cautious.

Holding cash give you the option later on of perhaps being able to pick up these stocks at higher yields than they're trading at today.

Glaser: Great. Thanks so much for talking with me today, Josh.

Peters: Happy to join you.

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