Wounded stocks with hefty dividends

By Harry Domash

Editor's note: To view the stock screen mentioned in this column, download the free MSN Money Investment Toolbox.

Citigroup, Merrill Lynch, Bank of America, Bear Stearns, JPMorgan Chase. The list of financial giants that have announced massive write-downs related to the subprime-mortgage meltdown is long. Uncertainty about which shoe might drop next has triggered sell-offs in most financial stocks and in just about anything else that could be hurt by the resulting tight credit markets.

However, the "sell first, ask questions later" mood that has permeated the markets for the past six months has created opportunities for investors willing to look beyond the bombardment of negative headlines. This is especially true of dividend-paying stocks.

In normal times, strong banks and other quality stocks rarely paid dividends equating to more than 4% yields. But now yields in the 5% to 6% range are common. One advantage of focusing on high-dividend payers is that you get paid to wait in case the turnaround takes longer than expected.

With that in mind, I've created a screen for isolating stocks that got clobbered during the past few months but pay dividends equating to 5% or higher yields. From that universe, I've pinpointed the candidates with best the prospects for maintaining or increasing those hefty dividend payouts during 2008. Here are the details:

Shaken, not slammed

Though our goal is to find bargains created by the subprime-mortgage fiasco, the biggest losers are apt to be the last to recover. Thus, to reduce risk, I limited my screen's field to stocks that were only moderately trounced rather than smashed.

What's moderately trounced? I set my limit at a 25% loss over the past six months. Since I arbitrarily picked that figure, try increasing your limit to 30% or 40% if you want to see more stocks.

Screening parameter: % price change last 6 months >= -25%

Screening parameter: % price change last 6 months <= 0%

The first screening term limits the field to stocks that dropped no more than 25%, and the second term rules out stocks that did not drop at all during the past six months.

What they pay

Dividend yield is the return that you expect to achieve over the next 12 months from dividends alone, not counting share price gains or losses. It's calculated by dividing the expected next 12 months' dividends by the current share price.

Though many solid companies are paying dividends equating to 5% to 6% yields, some stocks are paying much more. However, very high yields, say above 15%, signal that many players see problems ahead.

With that in mind, I require dividends of at least 5% but no higher than 15%. Cut your minimum to 4.5% or even 4% if you want to see more stocks. However, don't even think of raising the maximum allowable yield above 15% -- and consider lowering it to 10% if you want to reduce your risk.

Screening parameter: current dividend yield >= 5

Screening parameter: current dividend yield <= 15

The yields quoted on MSN Money and other financial Web sites assume a company will continue to pay its dividend at the current rate for the next 12 months.

But that won't happen in many instances. Some strapped companies may have to cut their payouts to conserve cash, while others will grow earnings enough to justify increasing their payouts. If the latter happens, you'll win two ways: You'll earn a higher yield, and news of the dividend increase will probably move the share price higher.

About 250 stocks passed the six-month-price-change and current-dividend-yield requirements. Next, we'll add the needed screening rules to pinpoint candidates with the best combination of low risk and dividend growth prospects from that list.

A size requirement

Market capitalization -- recent share price multiplied by the number of shares outstanding -- is the most widely used company-size gauge. Think of it as how much you'd have to shell out to buy all of a company's stock. Values below $2 billion reflect small-cap stocks, and those above $10 billion are considered large caps.

In my experience, smaller companies are riskier bets than large ones. So, I specified a minimum $2 billion market cap to rule out small caps. Consider raising your minimum to $5 billion or even $8 billion if you want to further reduce your risk.

Screening parameter: market capitalization >= 2,000,000,000

Continued: Listen to the pros

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