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3 Reasons to Invest in Dividend-Paying Stocks for Retirement
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3 Reasons to Invest in Dividend-Paying Stocks for Retirement

3 Reasons to Invest in Dividend-Paying Stocks for Retirement

They may be boring, for retirees and pre-retirees alike. The fact of the matter is, however, that a healthy dose of dividend stocks is what most investors need in their portfolios...even if they don't need income right now. Here are three specific reasons why you may want to make this strategic shift sooner rather than later, even if retirement is years down the road.

1. You need dependable stocks

Even removing dividend payments from the equation, stocks that dish out regular dividends are historically less volatile (and therefore more dependable) than most growth-oriented stocks. Numbers crunched by Bloomberg L.P., for instance, indicate that the volatility of the S&P 500 Dividend Aristocrats Index is almost always less than the S&P 500's (SNPINDEX: ^GSPC) volatility, while Standard & Poor's has found that its S&P 500 Low Volatility High Dividend Index fared better than the broad market 73% of the time during downturns.

Granted, the index generally underperformed during bullish periods. There's much to be said for knowing you don't have to perfectly time your retirement date to coincide with a strong bull market, though.

Regular dividend checks provide you with the cash you need to pay the living expenses you'll still be paying regardless of your age. You can't pay your electric bill with the potential gains on a stock you own but aren't quite ready to sell.

2. You need consistent, meaningfully rising income over time

Don't be too quick to shun a dividend payer with a relatively low yield in favor of a sexier growth stock, assuming the latter will dish out bigger rewards. While a payout from a boring name may not appear terribly impressive on the surface, it's possible that dividend has steadily increased in a big way over time.

Take Tractor Supply (NASDAQ: TSCO) as an example. Its current dividend yield of 1.2% is hardly thrilling, more or less in line with inflation. But its recent dividend increase is a 14% improvement on the previous quarterly payout, mirroring previous increases in its dividend. Tractor Supply has nearly doubled its per-share payout since 2014, and almost tripled it since 2013. That still doesn't qualify as a Dividend Aristocrat, but with ten annual dividend increases under its belt, Tractor Supply may be on its way.

Image source: Getty Images.

The real benefit of steady dividends -- and dividend growth -- from good companies shines through when those payouts are reinvested. Investors who took their payments and reinvested them in more shares of Tractor Supply at the time the payments were made would be up on the order of 600% on their position just since 2010. For perspective, that's a better return than a healthy non-payer like Alphabet gave its shareholders during the same stretch.

And, yes, dividends made the difference. Tractor Supply's stock price alone is only higher by about 200% for the 10-year stretch in question without reinvesting those consistently increasing payouts.

Obviously not every income-driving stock will pan out as well as Tractor Supply has. The company's overall returns are a microcosm of numbers compiled by the Hartford fund company, which suggest dividends have accounted for around 40% of the S&P 500's total returns since its inception. It may be easier to plug into these predictable dividend payers than it is to remain on the constant hunt for the names that provide all of the other 60%. Like it or not, investors who are active stock pickers tend to eventually underperform the overall market rather than outperform it.

3. You need flexibility

Finally, a key reason to own dividend names, whether you're building your nest egg or now living off it, is that you can always change your mind about what to do with those payments. With a simple call to a broker (or with just a few keyboard strokes), an investor can turn off or turn on a dividend reinvestment plan...to start collecting cash for another purpose, including pouring money into more shares of a brand new growth holding in the future. With a non-dividend name, your only choice to monetize that position is selling it, and perhaps incurring a big tax liability in doing so. If nothing else, cash can be amassed and then placed into a top growth prospect at an opportune time.

This may be the most important aspect of dividend stocks that too many investors dismiss until it's too late. Even in a full-blown bear market, quality dividend payers like Procter & Gamble (NYSE: PG) or utility name Southern Company (NYSE: SO) continue to make quarterly payments because their customers continue to buy their products. Those stocks may be pulled lower by the broad market's bearish tide, but shareholders are still collecting cash in a pinched environment. They can hang on until the economy is humming again.

That's not necessarily so with most growth names, particularly if a retiree is looking to live on the proceeds of stock sales. The last thing any investor wants is to be forced into selling a position at a loss even knowing it's likely to rebound in time.

Make sure you have some dividend stocks

None of this is to suggest there's no room for non-dividend names in anyone's portfolio. There's good reason to own exposure to these sorts of stocks, particularly for younger investors who can let time do the heavy lifting, and investors who don't do more harm than good by chasing past performance.

However, current and future retirees certainly shouldn't ignore the overall potential of dividends, as there's far more of it than is typically recognized.

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Suzanne Frey, an executive at Alphabet, is a member of The Motley Fool's board of directors. James Brumley owns shares of Alphabet (A shares). The Motley Fool owns shares of and recommends Alphabet (A shares), Alphabet (C shares), and Tractor Supply. The Motley Fool has a disclosure policy.

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