Dividends scratch itchy investors

by Stephen Butler

Remember the "Seven Year Itch?" It was a movie starring Marilyn Monroe, but the term applied to the statistic illustrating that marriages tended to fail most often at that seven-year mark.

Back in the 1970's, when today's Baby Boomers were struggling with relationships rather than their retirement planning, I recall hearing that some motels in Walnut Creek were experiencing 110 percent occupancy ratings.

Today's statistics that count include the fact that there are 75,000 U.S. citizens older than 100 and a third of them are still driving. More than 2 Americans are older than age 90. At 4 percent inflation, $1,000 today will be worth $456 in 20 years. The inflation rate for seniors, based on goods and services they have to purchase, is 18 percent higher than the rate for the population at large. A male age 75 has a 50 percent chance of living until the age of 84.6. A female at 75 can expect to live until 86.9, meaning that 50 percent will live to an older age. Females have been increasing their longevity by three months per year for the past 20 years. This last statistic, in at least some cases, is a testimonial to the special handling they receive from the men in their lives...or partners...whatever.

We boomers' contemporary version of the "seven-year itch" is the tendency to tamper with our portfolios. Leaving well enough alone can be difficult in the light of the statistics outlined above.

There is a natural tendency to try to figure out how to wring more income and/or gains from an existing portfolio. At our worst, we can fall prey to overly optimistic and expensive scenarios from the financial services industry.

When someone whispers the word "plastics" to Dustin Hoffman in "The Graduate" as the secret to his future, today's equivalent for boomers would be "dividends." Dividends today can generate substantial additional income and are taxed at only 15 percent for those who are retired. Dividends contribute an average of 25 percent of a total portfolio's gains when they are reinvested for those still approaching retirement.

Before plunging into annuities, targeted income replacement products and a variety of expensive financial inventions all floating on a sea of fear-mongering, we should take a look at good old fashioned dividends.

There are plenty of resources for determining where to find value-oriented stocks that are paying substantial current dividends --- dividends that in many cases have been increasing every year for years. "Morningstar Dividend Investor" is a monthly newsletter oriented toward high-dividend paying securities and mutual funds. Another is "High Yield Investing" --- a publication of StreetAuthority.

A typical investment outlined in one of these publications would be Wachovia Bank preferred stock, currently paying a yield of 8 percent. Preferred stock, as opposed to common stock, is just what the term implies. In the case of a severe corporate "doomsday" experience, the regular, common stock holders would lose money before the preferred stock was affected. If a company is struggling to be profitable, it has to pay the stated dividend to its preferred stockholders before it can pay anything in dividends to its common shareholders. Dividends can be cumulative, so that if they miss a few years and then start again, like PG&E did in the early 1990's, they make up the missing years in one lump sum.

The average yield paid on all preferred stock today is 8 percent. Some are paying as much as 15 percent, but now we're veering into "too-good-to-be-true" territory. For what it's worth, dividends tend to be much more consistent than stock prices. Prices of stocks, both preferred and common, can fluctuate, but companies try to always keep paying their usual dividend to maintain confidence even during market downdrafts.

Getting back to Wachovia, which is now on every local street corner since they bought World Savings last year, we note that their new preferred stock issue is given an "A" rating by the rating agencies. This means that they are "investment grade" with an extremely low probability of defaulting on the dividend. Generally speaking, preferred stock will rise with the success of the underlying common stock, so they offer some protection against inflation. (Some bank stocks are up as much as 40 percent since their January lows.) However, preferred stock can include a variety of options that make them similar to bonds.

For instance, they can have a call feature which allows the company to buy the shares back at a certain date in the future for the same money share price they were issued at. The Wachovia shares happen to be "perpetual" meaning that they have no call date.

The temptation to tamper with investments can be irresistible and healthy --- a little nudge here and a bump there, and the itch can be satisfied. Taking an interest in financial education can help to open new opportunities, like preferred stocks, while keeping the mind occupied and avoiding what might otherwise become the "seventy-year itch."

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