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3 dividend stocks to buy and 2 to avoid

High-yielding dividend stocks have been hit hard in the market’s recent sell-off.

Perhaps that’s because foreign investors are seeing better opportunities overseas, or expecting US interest rates to rise sooner rather than later.

Or maybe it all falls down to the fact that many of Australia’s highest yielding stocks had simply become wildly overpriced.

I’m looking at you, Commonwealth Bank of Australia (ASX: CBA), in particular. Not to mention its fellow banking peer Westpac Banking Corp (ASX: WBC), both of which skyrocketed to record highs with investors seemingly forgetting about the importance of valuation when making an investing decision.

Indeed, it seems investors were instead focusing on the enormous yields on offer, as well as the ‘safety’ that once came bundled with buying the stocks.

Shares in both banks have since fallen in price and have now entered a “technical correction” – defined as a 10% fall in price since their peaks.

While it’s fair to assume that these setbacks have plenty of people tempted, I would still suggest giving them a wide berth. I’m not only concerned about their exposure to Australia’s red-hot property sector, or that they’re in danger of a further sell-off from foreign investors. I also firmly believe they are still overpriced.

It’d take a bigger drop than we’ve had so far to tempt me into buying.

However, I’m an opportunistic investor. And like the next investor, I love a bargain.

Just because I’m avoiding the banks still doesn’t mean I’m avoiding shares altogether – far from it! In fact, it’s times like these where we can find the best opportunities – the ones that can help us recognise market-smashing returns in the long run.

3 dividend stocks I’m looking at

While I won’t even attempt to predict whether we’ve hit the bottom or if the S&P/ASX 200 (INDEXASX: XJO) has further to fall, I do think that it has been a little overdone on some stocks, and some dividend stocks, in particular.

Although it is a popular belief amongst analysts that interest rates will begin to rise early next year, I think it could be a lot later than that. Heck, they could even fall further before that – possibly as low as 2.25%!

That’s why dividend stocks are still so appealing – provided you’re paying the right price for them, that is…

One company that has tempted me is Insurance Australia Group Ltd (ASX: IAG), which has been smashed in recent weeks with its shares now trading at just $5.94. With the company expected to distribute 38.2 cents per share in FY15, that puts it on a fully franked yield of 6.4%!

RCG Corporation Ltd (ASX: RCG) and M2 Group Ltd (ASX: MTU) are both looking delicious right now too. RCG, the owner of The Athlete’s Foot shoe store chain, is yielding 7.4%, while telecommunications business M2 Group is yielding 3.4% – both fully franked, of course.

Indeed, not every company that offers an attractive dividend yield is going to be a good bet. Investors also need to ensure they can sustain those payments and assess whether the company can continue growing earnings in the future.

One more company that is posing as an excellent buy right now has recently been highlighted by The Motley Fool’s top investment advisors as their BEST dividend stock pick for 2014-15. 

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Motley Fool contributor Ryan Newman does not own shares in any of the companies mentioned.

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