With interest rates near record lows and financial markets getting choppy, investors are seeking safety and income in U.S. stocks with high dividend yields.
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But by looking abroad, investors can get much better payouts without more risk -- even as a fiscal crisis looms in Europe and emerging markets face slowing growth.
That's because tumbling stock markets outside of the U.S. have priced in some of the risks. At the same time, falling markets overseas have boosted "dividend yields," or dividend payments as a percentage of stock prices.
MSCI's Europe index, for example, is down 24% over the past year, while its EM index, which tracks emerging markets like China and Brazil, has fallen 21%. The Europe index yields a juicy 4.4%, while the emerging markets index yields 3.2%.
The MSCI USA index, meanwhile, is up 2% over the past year and yields only 2.3%.
Investors who chase higher yields in the U.S. face added risk, because many of the companies that pay a lot are troubled in some way -- and might not be able to boost, or even sustain, their dividend payments in the future. Consider that, over the past year, the 50 U.S. companies with the highest yields among the Standard & Poor's 500-stock index have produced only one-fifth the dividend payment growth of the next 50 companies.
In other words, investors seeking plump yields can either look through the scratch-and-dent bin in the U.S. or choose among top-quality merchandise in other markets.
It isn't just the difference in stock-market performance that has produced such a wide gap in dividend yields. The U.S. also has become an anomaly for the relatively low percentage of profits its companies pay out as dividends, says Brad Kinkelaar, co-manager of the Pimco EqS Dividend fund, which launched in December and has $293 million in assets.
"U.S. investors have been taught to believe that you get either growth or income," Mr. Kinkelaar says. "In international markets, investors still demand both."
The highest-yielding sectors in the U.S. now seem pricey. Utilities, telecoms and makers of consumer staples like beer and laundry detergent historically have traded at discounts to the market based on projected earnings because of their slow earnings growth. Now they fetch sizable premiums.
The best approach to dividend investing is to diversify among U.S. and non-U.S. shares. Mr. Kinkelaar recommends three companies that he believes can steadily increase their payments.
One is Companhia de Saneamento B sico de Estado de S o Paulo (SBS), or Sabesp for short. The Brazilian water company's stock has jumped 10-fold in a decade and still yields more than 4%. G4S (GFS.L), a U.K. provider of security personnel and technology with operations in more than 120 countries, has a dividend yield of 3.1%.
Vodafone Group (VOD), the British telecom, yields 7.4% and trades at around 10 times projected earnings for its current fiscal year. Those numbers suggest it is cheaper than AT&T (T), at 14 times earnings, and Verizon Communications (VZ) at nearly 17 times earnings, even though all three companies have similar risk profiles, Mr. Kinkelaar says.
Another approach is to buy single-country exposure using exchange-traded funds. The guidelines are similar to those for individual companies: It does little good to pick a high-yield market if its economy isn't likely to expand, or if its currency won't hold its value.
I cross-referenced a list of country dividend yields supplied by MSCI with Growth Environment Scores published by Goldman Sachs (GS) . The scores are based on a long list of factors including government debt, inflation, corruption levels, the cost to start a business and the number of patent filings, and are designed to reflect growth potential.
These countries have dividend yields of over 4% and rank among the top 30 of 183 countries by GES score: Singapore (ranked No. 1), Norway (2), Sweden (5), Australia (6), New Zealand (10), Finland (12), United Kingdom (20) and Taiwan (27). The iShares family of ETFs has funds for each.
A small number of actively managed mutual funds invest in dividend-paying stocks world-wide (including in the U.S.), but most haven't been open long enough to compare performance records, says Christopher Davis, a fund analyst at Morningstar.
Mr. Kinkelaar's fund, Pimco EqS Dividend, carries a dividend yield of about 4% and holds stocks that trade at an average of 10.6 times earnings estimates, versus 12.2 times for the "world stock' category, according to Morningstar. Allianz NFJ Global Dividend Value, which launched in June 2009, yields 4.4% and carries an average price/earnings ratio of 8.7.
But both funds have maximum upfront sales charges of 5.5%, with discounts for large purchases. Fidelity Global Equity Income, which has no upfront sales charge, launched just last month.
High dividend yields overseas are no guarantee that stock prices there won't fall further. But if investors can grab a pay raise without adding to their overall risk, they should.
—Jack Hough is a columnist at SmartMoney.com. Email: jack.hough@dowjones.com
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