September 27, 2015

No topic gets financial pundits more riled up than the Federal Reserve and interest rates.

There's also no topic these pundits have been more wrong on. Time and time again, they project interest rates are set to rise, but they've stayed stubbornly low.

The Fed met on Sept. 17 and once again left target rates unchanged at just .25%. That's the same figure as a month ago, a quarter ago, or even a year ago.

Why does this matter to you? For one, if you're reliant on lower-risk investments like government bonds, you'll continue getting paltry returns on your savings.

That's a problem for millions of retirees and savers across the country. Knowing the challenges to collecting income in today's low-rate environment, I sat down this week with Motley Fool Income Investor's lead advisor, James Early.

How can you squeeze more income out of your portfolio, and why might now be a good time to buy dividend stocks? James has the answers.

Eric: Let's get right to it, why are dividend stocks so attractive right now?

James: The bottom line is that right now, nobody's getting any yield through bonds and money market accounts. Dividend stocks tend to go down before rates rise, and we've seen them decline even without the rate rise. So, now is actually a relatively better time than people might think to be getting into dividend stocks.

It's kind of like getting a shot at the doctor - the anticipation of the event is worse than the actual thing happening.

Eric: Plus, I think people who expect massive rate rises in the future will be disappointed. Economists have projected rising interest rates for 20 straight years and been wrong.

James: That's right Eric; whatever rate rise we're going to have is going to be a long, protracted, and gradual rate increase. Which is frankly, the best kind to have... And it's only going to be a rate increase because the economy is so strong.

In other words, it's for a good reason - the Fed is not going to just punish people with higher interest rates.

In general, the initial shock has already occurred - prices are stable for dividend stocks - so it's a relatively good time to get in.

Eric: Where are you finding deals in dividend-paying stocks right now? Anything more low-risk that might appeal to investors looking to shift some fixed-income to dividend payers?

James: There are plenty of stable, blue chip stocks that have been beaten down. In addition, there are a lot of consumer goods companies that I think look very cheap right now.

This is a new situation. These stocks were trading at what I thought were excessive valuations for the past five years - because everyone was searching for yield! So too many investors were piling into the most obvious, stable dividend stocks.

So I've been taking a number of stocks I had on "hold" at Income Investor in recent months, companies like Procter & Gamble (NYSE: PG) and Kimberly Clark (NYSE: KMB), stable bread and butter companies that were pricey... They're now fairly priced. So, if you're less risk seeking, these names have been pummeled.

Then there are oil companies - pounded by oil prices and the strength of the dollar. If the dollar is at a five-year high against most currencies, that's brutal for oil demand, coupled with excessive supply and it's a perfect storm for these companies.

But that storm's not going to last forever.

Eric: That oil suggestion is interesting, so we'll get back to it in a minute. But first, I wanted to ask what kind of yield you're looking for at Income Investor.

James: Generally speaking, we aim for a 3% or higher yield. We'll go a little lower from time to time if something's an interesting opportunity or has a fast-growing yield.

A year ago, it was getting harder and harder to find yields. I was looking at some smaller markets, oddball industries... But now, you can get that 3% yield because prices have fallen. You can get that with run of the mill dividend stocks - that's a good thing.

Eric: You've talked a lot about dividend stocks getting cheaper, which obviously is related to the recent market drop. So, you mentioned oil... What other opportunities has this market drop opened up?

James: Two answers.

First, I already talked about blue chip, bread and butter type stocks being cheap.

Second, energy and emerging markets are both very interesting categories. People who get in now are going to have some nice gains in years ahead.

And, I think there are actually some pretty safe companies in energy as well.

Spectra Energy (NYSE: SE) is a great example. It's been beaten down, but it's not as risky as these wildcatting oil companies that have really been pummeled. Spectra has a solid balance sheet and one of the best management teams in the business.

That's actually an Income Investor Buy First, and could be a great starting point for investors looking for dividends.

Looking back at one more play that's a bit on the safe side for investors, Verizon (NYSE: VZ) is also on our Buy First list. Verizon is a very stable phone business, fundamentally a utility even though it's more a wireless company now. Because it's so stable, this won't be a moon rocket - you're not likely to get rich with Verizon, but you won't lose much either. At the same time it's paying about a 5% dividend.

The cell phone business in the U.S. is coming out of what's been a pretty rough price war that Verizon has done pretty well in. So, it's a good time overall to buy Verizon.

Eric: Thanks James. Plenty of good ideas here for yield-starved investors to look over.

Until next week,

Fool on,
Eric Bleeker, CFA

P.S. With no movement in interest rates, dividend stocks are looking like a great opportunity for lower-risk investors.