Dividend stocks often sound boring to growth investors. These individuals usually focus on finding the next Amazon or Microsoft rather than exploring mature industry titans.
And yet, looking at the past performance of indices such as the FTSE 100 or S&P 500, dividends have been responsible for close to three-quarters of total returns achieved in the last 50 years.
A growth-oriented strategy may be a faster path to wealth when executed successfully. But it comes with a significantly higher risk profile and exposure to volatility.
Of course, dividend stocks aren’t risk-free. However, the stable nature of cash flows from industry leaders means investors are less prone to disruption. And with the stock market still reeling from the 2022 correction, plenty of these income opportunities are currently trading at attractive discounts.
Leveraging the power of dividend stocks
Looking at the UK flagship index today, the British stock market currently offers a dividend yield of around 3.9%. Investing £500 a month at this rate of return would take roughly 52 years before hitting millionaire territory.
Obviously, that’s quite a while. But this calculation assumes that the yield stays constant. In practice, when carefully selecting individual high-quality dividend stocks, this level of payout can be increased significantly.
Apart from an initial boost in starting yield, by picking companies able to consistently expand their cash flows, dividends have the potential to rise.
Therefore, while a stock may offer a low yield today, the payout may be significantly higher a few years later on the original cost basis. For example, Safestore Holdings (LSE:SAFE), the self-storage real estate company, has increased its shareholder payouts for 13 consecutive years.
Investors who spotted this potential and held on this past decade have watched their dividends grow more than 500%! And what started as an already high yield of 9% now stands at 54.2% on an original cost basis. In other words, a £10,000 investment in 2010 currently generates £5,420 in annual passive income. And that’s excluding any additional gains from share price appreciation.
At this rate of return, hitting millionaire territory will be significantly faster, cutting decades off the waiting time.
There are always risks
Safestore is a pretty exceptional story. And most dividend stocks on the London Stock Exchange aren’t destined to replicate this performance. Even today, giant question marks surround the real estate group’s ability to continue expanding shareholder passive income.
After all, this incredible feat was achieved during a time when money was basically free to borrow. And following the interest rate hikes by the Bank of England, those days are now over.
Mature industry leaders are less prone to internal disruptions of cash flow. But there’s little a firm can do to predict external fast-moving disruptions. I think the best example of this in recent years is the global pandemic decimating once-thriving travel stocks like Carnival.
All of this is to say dividend stocks can be highly lucrative investments with lower exposure to risk versus growth shares. However, investors still need to perform careful due diligence and seek to diversify on the path to becoming a millionaire.
This post was originally published on Motley Fool
