It's tough to retire on a 2% yield. Factor in inflation, and you're all but guaranteed to lose money on many traditional income products, including high-quality government bonds, bank certificates of deposit and savings accounts.
Even riskier corporate and government debt is currently offering a paltry yield. Consider that Spanish five-year bonds currently yield just a little more than 3.5% despite the fact that just six months ago, some were speculating the nation could be forced out of the European Union or would need to restructure its debt burden. That's a paltry yield for taking on all those risks.
In such an environment, there's nothing quite like a fat, double-digit yield to attract investors' attention.
Many investors equate dividends with safety. After all, some of the best dividend-paying stocks are solid companies with a long operating history and consistent cash flows. And during the past decade, stocks offering dividends have outperformed the broader market.
But stocks offering 10% yields in the current low-yield environment are often downright speculative. There's no free lunch on Wall Street -- if a stock is paying a sky-high dividend yield, then it's often because investors expect the firm to be forced to cut its payout. Many of the highest-yielding stocks are cyclical and exposed to risks such as an economic slowdown or a slump in commodity prices.
Raymond F. DeVoe, a widely-read economist for Legg Mason, once quipped that more money has been lost reaching for yield than at the point of a gun.
Based on the experience of the past two years, he's absolutely correct. At the end of 2011, there were 11 stocks in the combined universe of the S&P 500 and Bloomberg Europe 500 indexes with an indicated yield of more than 10%. One year later, these stocks had risen an average of just 4.5% in a year when the S&P 500 was up more than 16% and the Bloomberg Europe 500 was up nearly 20% in dollar terms.
That's not to say that investors can't make money from stocks offering such high yields. It's simply a matter of being selective and paying attention to macroeconomic and industry-specific factors that might prompt a stock to cut its payout. That's why many of my High-Yield International picks offer yields of 8% to 10% -- or even more -- while outperforming the broader market during the past year.
But when looking for higher yields it's also important to consider other factors. Specifically, some of the best-performing income stocks are those that offer a single-digit yield and boast a history of consistently boosting their payouts to shareholders.
Consider the following test...
At the end of 2011, there were 52 stocks in the combined universe of the Bloomberg Europe 500 and S&P 500 indexes with an indicated yield of between 4% and 8%, and a history of boosting their dividends at a 5% annualized pace or better during the prior three- and five-year periods. Those 52 stocks have rallied an average of about 15% during the past year.
While that lagged the broader market indexes slightly, these 52 stocks sport an average beta of about 0.88, meaning that they're less volatile and, therefore, less risky than the broader market.
With these points in mind, I screened for foreign firms offering yields of between 4% and 10% and trading as American depositary receipts (ADRs) on the U.S. exchanges. I looked for companies that have boosted their dividend payouts by more than 5% during the past three- and five-year periods. To eliminate thinly-traded issues, I excluded all ADRs trading less than 10,000 shares per day. And to eliminate weak performers, I required all stocks that passed the screen to be trading higher than they were one year ago.
Action to Take --> Financial and insurance stocks dominate the list, and I actually hold one of the stocks in the table above in my High-Yield International portfolio. And while this list shouldn't be viewed as a list of "buy" recommendations, it should be a good starting point for further research for investors looking for strong, growing yields abroad.