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6 top reasons to buy dividend stocks

There are a few reasons Australian investors love dividends so much, not least of which is franking credits.

Australia is one of the lucky countries where investors get a benefit because companies have already paid tax on the cash used to pay dividends. And that means franking credits for shareholders.

But it’s not the only reason dividend-paying stocks are a good choice for investors.

Here are six more reasons.

  1. Outperformance

Several studies (and here) have shown that dividend stocks tend to outperform non-dividend payers. Companies growing their dividends over time perform even better.

The reasons are several, with dividend-paying companies forced to rely on less retained capital to grow their business – so they tend to be more careful with their capital. Those that don’t pay dividends may feel pressure to use their accumulated capital in unwise ways.

  1. Big yields provide support and reduce volatility

Dividend companies like Telstra Corporation Ltd (ASX: TLS) are loved by many investors for their consistent dividends so tend to garner shareholders who are in it for the long haul, accruing dividends over time. That tends to reduce volatility compared to a small cap company with no dividends. At the current share price of $4.64, Telstra paid a dividend of 31 cents last financial year – a dividend yield of 6.7%. Add in franking credits and the return soars to 9.5%.

Add the big four banks to that list as well.

  1. Get your investment back over time

At the current price of $4.64, if Telstra keeps its dividend at 31 cents each year or higher, investors buying in today will receive their capital back in 15 years, plus the opportunity to see solid capital gains if the share price is higher.

If dividends grow consistently then that payback period will rapidly fall. REA Group Ltd (ASX: REA) has more than tripled its dividend since 2011 – from 26 cents to 81.5 cents last financial year.

  1. Don’t have to worry about the market

If you generate enough income from a quality, diversified dividend portfolio, you won’t need to worry about where the market goes in the short term. It also means you don’t need to sell your shares to generate income while markets have hit a low.

  1. Let the yield tell you when to buy

Investors typically struggle to buy and sell shares are the right times, selling when the market is low and buying when the market is euphoric or at a high. Income investors can use the dividend yield to tell them when to buy.

Telstra’s 6.7% yield might be a signal to buy shares, and if the yield drops below 5%, then it might be time to sell.

  1. Psychological benefit

When markets are volatile, a portfolio chock full of high-quality dividend paying stocks should help investors hold on to their investments as those dividends may continue to keep flowing – despite what the market is doing.

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Motley Fool writer/analyst Mike King doesn't own shares in any companies mentioned. You can follow Mike on Twitter @TMFKinga

The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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