Owning a diversified portfolio of high-quality dividend stocks is a great way for investors to minimize risk and build a reliable stream of passive income. But to build a high-performance dividend portfolio with set-it-and-overlook-it characteristics, investors still have to be selective.
At their current share prices, Verizon Communications (VZ -1.22%) and McDonald’s (MCD 0.66%)have an average yield of 4.6%, so investing $11,000 evenly between them would net you passive income of more than $500 annually. Even better, there’s a good chance that both of these industry-leading companies will continue to boost their payouts each year.
If you’re aiming to build up your passive income stream, two Motley Fool contributors believe that investing in these top dividend stocks would be a smart proceed.
One of the best dividend stocks in the S&P 500
Keith Noonan: Verizon stock boasts an impressive 7% dividend yield at today’s prices. Even after a recent rally, the stock price is still down roughly 4% across 2023’s trading. Strikingly, the company’s share price is also down roughly 40% from its high.
Competition in the telecom space, high interest rates leading to greater debt-related expenses, and other factors have caused the stock to struggle in recent years. But the combination of the stock’s weak performance and management’s regular payout hikes has had the effect of elevating Verizon’s dividend yield.
The telecom giant currently offers the second-highest yield of any company in the S&P 500 index, trailing only Walgreens Boots Alliance, which currently yields roughly 8.4%. However, Verizon’s payout looks much more sustainable over the long term — and I think the communications leader stands out as a top play for investors seeking dependable passive income generation.
Verizon expects to create roughly $18 billion in free cash flow this year. Meanwhile, it anticipates distributing roughly $11 billion worth of dividends to shareholders. With its payout ratio sitting at roughly 61%, Verizon’s dividend is safely covered — and there’s a good chance that management will continue to boost the payout annually.
In addition to having one of the highest overall yields in the S&P 500, Verizon has the longest active payout-hiking streak of any U.S. telecom company — 17 years — and cost-cutting and efficiency initiatives should pave the way for advance hikes even if it is unable to accomplish substantial sales growth in the near term.
VZ PE Ratio (Forward 1y) data by YCharts.
Beyond offering one of the most attractive dividend yields on the market, Verizon stock also looks quite cheaply valued. Trading at less than 8.2 times next year’s expected earnings, the company’s current valuation leaves room for capital appreciation that could add to the returns shareholders will bank from its dependable dividend.
McDonald’s could create passive income for decades more
Parkev Tatevosian: McDonald’s is one of my favorite stocks right now for income investors. The company made prudent decisions during the depths of the pandemic that are likely to keep benefiting it over the longer term. Specifically, its investments in digital platforms helped enlarge each restaurant’s geographic achieve, reduced the demands on its employees, and increased convenience for customers. The ability to order McDonald’s for delivery or pickup from its app has been an unequivocal success, increasing convenience for customers, while lowering costs for the business (fewer cashiers needed).
Already, McDonald’s has increased its dividend per share from $3.12 in 2013 to $5.66 in 2022. That’s a healthy boost. (Forgive me for using the words healthy and McDonald’s in the same article.) More importantly, McDonald’s supported its rising dividends with profit growth. Over that same period, its earnings per share rose from $5.55 to $8.33.
In other words, McDonald’s dividends are sustainable for the long run at these levels. At the current share price, they yield a solid 2.2% and the stock trades at reasonable earnings multiples.
MCD PE Ratio (Forward 1y) data by YCharts.
That’s critical because paying dividends in excess of earnings is a policy that no company can uphold for long. Eventually, such a business will deplete its savings and achieve the limits of borrowing capacity. Therefore, passive income investors can be encouraged by McDonald’s situation, in which dividend growth is well supported by rising earnings. Moreover, McDonald’s stock is not prohibitively expensive, trading at a forward price-to-earnings ratio of 22.8.
