Selection Models and Finding the Top 10 Dividend Stocks for August 2023

Summary

• This monthly series focuses on DGI stocks that are most likely to provide high dividend growth rates rather than high current yields.
• We use our proprietary models to quantify and quantify and select the top ten names from an initial list of nearly 400 dividend stocks.
• A balanced portfolio should consist of high dividend growth stocks and high yield stocks, depending on the current price. If you are in the accumulation phase and have a few years left before retirement, high dividend stocks will be more suitable for long-term growth.

Why fast growing dividend stocks?

There are two types of dividend stocks that a DGI investor can choose from depending on their individual situation, goals and investment time horizon:

• High growth with low returns [HGLY]
• Low growth with high returns [LGHY].

As the names suggest, the HGLY category includes stocks that offer high dividend growth rates but typically low current yields. These stocks typically have low payout ratios, manageable debt levels, and high-growth earnings.

On the other hand, stocks like LGHY offer high current yields (usually 3% or more) but lower dividend growth rates. Generally speaking, these companies are more mature and stable businesses that have gone through hypergrowth but still grow modestly over time to maintain low but steady dividend growth.

Obviously, there will be stocks that fit somewhere between these two categories, such as average growth and average current returns.

So, who should own shares like HGLY? Basically, anyone who is in the accumulation phase and doesn't need income now and/or in the next five to ten years should own some fast growing dividend stocks. In addition, people, including entrepreneurs, who have a large investment capital that generates more income than they currently need (for example, 1.5 or 2 times their income needs), should at least partially invest in stocks like HGLY.

How to structure a portfolio?
While this will largely depend on your personal goals, risk tolerance, investing methodology and choices; however, if you would like to create a portfolio based on this monthly series, here is one way to do so.

• Budget your portfolio and allow for a maximum of 20-25 stocks over time.
• Divide your capital (current + future) into 25 equal parts.
• In the first month, buy 5 to 10 positions based on the top 10 stocks for that month.
• Starting next month, check for new stocks appearing on the top 10 list that are not part of your portfolio and add (as many as your process and budget allow).
• Repeat step 4 until you reach the maximum 20 or 25 positions.
• When you have reached the maximum 20 or 25 positions and you no longer have capital to add, look for new stocks that made the top 10 list and see if any of them should be added based on your further research. If you decide to add a position, then you need to find the position that you would like to remove and replace with a new one. You may find an existing item to delete that hasn't been in the top 10 in the last few months (for example, in the last six months).
• It may also be recommended to periodically monitor your positions, preferably monthly. Also, make sure you don't overvalue any particular sector or industry segment.

Criteria for choosing stocks in our portfolio

We will rely on the original dataset for the current month. We then apply additional criteria to filter out stocks that have delivered high dividend growth rates in the recent past and are likely to continue to do so for the foreseeable future.

• Market cap > $10 billion ($8 billion in a declining market)
• Dividend yield > 1.0% (some exceptions are made for companies with high quality but lower returns)
• Average daily volume > 100,000
• Growth in dividends over the past five years >= 0 (we will test for high growth later).
• A minimum of 5 years of positive dividend growth is desirable.

After the above filter, we calculated a score (Dividend Safety Quality Score), which was obtained based on the following factors:

• current income.
• History of dividend growth (number of years of dividend growth).
• Payout ratio - preferably based on free cash flow.
• Dividend growth over the past five and 10 years.
• Growth in earnings per share (average growth over the previous five years and expected growth over the next 3-5 years).
• Dividend growth rates for 5 years and current yield.
• Debt/equity and debt/assets ratio.
• Credit ratings S&P (Standard & Poor's Global Ratings).
• Distance from the 52-week high (current price minus the 52-week high).
• Growth in sales or revenue over the past five years.

Additional Criteria for Dividend Growth Stocks

The vast majority of stocks selected so far have raised dividend payouts for five years or more. However, some of them may not have raised constantly, but paid dividends for a long time and raised them only periodically. However, as an additional criterion, we will now filter out stocks that have increased their dividend payout by an average of 8% or more per year (some exceptions are made if the Chowder number is decent). We'll also look at stocks that may not have delivered consistent year-on-year growth, but have delivered a cumulative 30% payout growth over the past five years overall.

We will now use the following additional criteria to filter out stocks that would fit the high growth DGI stock template.

• Pay ratio (based on cash flow or based on earnings per share) is less than 80%.
• Dividend growth over 5 years is at least 7.5% or more. This is in line with the growth rate of the benchmark Vanguard Dividend Appreciation Fund ETF Shares (VIG).
• Dividend growth over 5 years plus dividend yield >= 9. Sum of current yield and dividend growth rate over the last five years.

After we apply these criteria, 221 stocks remain on our list. Please note that at this stage we have applied our base criteria, which are loose enough to retain a wide range of stocks. However, now we will perform additional filtering to get the best possible candidates.

We know that for a stock to increase its dividend quickly, it must increase its earnings at a very high rate. Without growth in earnings (earnings per share - EPS), a company cannot increase its dividend for a long time. Of course, some companies may try to achieve this by going into debt, cutting costs, or spending less on capital, but such measures cannot be sustained long before they cause more serious problems. Thus, our focus should be on income growth.

In our spreadsheet, we'll add four more columns of data for each of the stocks:

• EPS (earnings per share) Rating
• Change in EPS for the last quarter, % (actual)
• Change in EPS for the current quarter, % (estimate)
• % change in EPS for the current year (estimate).

We now add weights to these four datasets for each stock and add them to the original “dividend security quality score” to get a modified quality score biased in favor of stocks with high dividend growth. We will call this column High Growth Quality Score [HGQS]. We also import the 5 year average dividend yield for each stock.

Narrowing the list to 40 stocks

From the above list of 221 stocks, we will select approximately 45 stocks based on the following methodology.

Top 15 stocks based on the highest HG-Quality-Score (adjusted for sector or industry over-concentration).
Top 10 stocks based on the highest dividend growth in 5 years.
Top 10 stocks based on the highest dividend growth in 10 years.
Top 10 stocks by EPS rating (EPS rating taken from IBD - subscription required).
Table 1. Top 15 stocks with the highest HG quality score:

Table 1B: Top 10 stocks with the highest dividend growth in the past (5 years):

Table 1C: Table 1B: Top 10 growth stocks with the highest dividends in the past (10 years):

Table 1D: Top 10 stocks with the highest EPS rating:

We will now remove duplicates from this list as many stocks qualify based on multiple criteria.

Appeared twice: AGCO, DE, INTU, PXD, VICI, ZTS (6 duplicates)

Now we have 39 left (45 - 6).

We will then remove all stocks that have an HG quality score less than 60. This check will remove five entries (HII, QSR, NRG, AEM, ODFL, AMH) from the list, leaving us with 33 stocks.

We will also remove all names whose revenue growth (over the past five years) has been negative. There is none on this list.

We will also remove all stocks with an EPS rating of less than 70. This will remove VMC, TGT, MS and VALE. This leaves us with 29 names.

Finally, we will remove some stocks to avoid over-concentration in one sector or industry segment.

Banks: We keep MTB and JPM and remove BAC.

Industry: We keep DE and AGCO and remove CAT and CTAS.

Oil Production/Exploration: We will keep CTRA but remove PXD.

Building a house: We keep LEN but remove PHM.

REIT: We keep VICI and remove INVH. Also, since CHDN is in the same industry as VICE, we are deleting CHDN.

Semiconductor: We keep AVGO but remove MPWR.

Next, remove the RBA.

As a result, we have 20 stocks left, which are presented in the table below:

Table 2. Top 20 fastest growing DGI stocks of the month:

The Final Step: Selecting the Top 10 Fastest Growth DGI Stocks

This final step to reduce the number of elections to ten shares is a subjective process. We try to keep the group diverse, representing many sectors and industry segments. Readers can certainly make their own set of ten companies to suit their purposes, but they should try to keep the group diversified across different sectors or industry segments. However, below we will describe how we select these ten stocks for the month.

As a first step, we will order our list of the above 20 stocks based on sector-industry-segment and then in descending order of net quality score.
From top to bottom, we will select one stock from each industry segment. We will try to choose either the top (or second) from each of the industry segments.
We can put some weight on how stocks are currently valued (in terms of valuation), but some of these high-growth stocks may not be selling low.

Here are our top 10 picks this month.

Current month (July-August) List: (DE), (INTU), (MTB), (ADP), (UNH), (MA), (DKS), (CTRA), (ZTS), (LEN).

List for previous month (June): (MTB), (DE), (ADP), (UNH), (INTU), (V), (COST), (CTRA), (MCHP), (LEN).

As this methodology is heavily based on a filtering process, we would like to point out that many stocks may repeat from month to month, but we will also see new stocks come out on top and replace some old ones. We don't change stocks just for the sake of changing. This month, seven of the ten stocks of last month are repeated.

Also, it might be interesting to note that Mastercard has been added to our list this month in place of Visa. It's just a function of our filtering process. But, in our opinion, both are equally good and interchangeable. Thus, if you had a Visa card, there is no need to replace it with a Mastercard.

Note. Note that just because a stock was on the previous month's list but is no longer selected in the current list does not mean that the stock is no longer a good choice. If the stock still has an HG-Quality > 70, we think it's still at least a "hold" (if not a "buy"). The goal here is to highlight the best candidates each month. Please do more research and due diligence before making any buying or selling decisions.

Table 3:

Ex work

Now let's see how our model portfolio of these ten fast-growing stocks will perform from 2009 compared to the Vanguard Dividend Appreciation Fund or S&P500 (SP500) ETF benchmark stock. Incidentally, the VIG and the S&P 500 have been doing pretty much the same for the past 15 years. We assume that our model portfolio has been evenly invested in ten selected stocks over the entire period. Please remember that this is a verified performance and not a real one. Also, past performance is no guarantee of the future.

Chart 1:

Note. One of the stocks, ZTS, had no history until 2007, so it was not considered until 2014.

The effectiveness of the outcomes of the previous month:

(June 24, 2023 to July 24, 2023)

Comparison of indicators for approximately one month (from the date of the report for the previous month to the current month). Although one month is too short to judge the performance of any portfolio; however, it may be useful to compare the performance each month and this will allow us to calculate the annual performance of the strategy. We also report year-to-date aggregates. Obviously performance will vary from month to month.

Table-4:

Final remarks

This article focuses on picking fast growing dividend stocks, not just any dividend stocks. Typically, such stocks are in a period of hypergrowth. This is also the reason why their dividend yield is low. Thus, this list may not be suitable for profitable investors, but rather for a more selective audience.

Based on our rule-based filtering process, we start with a large number of stocks each month and narrow down the list to around 20. As a final step, we use subjective analysis and our judgment to select ten stocks that form a diversified group and are likely to offer high growth at reasonable values.

This month, the top 10 has returned roughly 1.8%, which is roughly the same as our benchmark fund Vanguard, VIG. However, the dividend growth over 5 years for this group is much higher at almost 24% compared to 9% for VIG. A larger group of 20 stocks gives slightly higher returns. Both groups are highly diversified across many different sectors and industry segments.