10 fast moving shares for growth and income investors

Jim Slater's ideal company had a dividend growing in line with rising earnings. With that in mind, Stockopedia's Ben Hobson screens for stocks boasting a potent mix of income and growth.

When it comes to investment strategies, 'growth' and 'income' are usually seen as very different beasts. For growth investors, it's often the case that sales and profits are more important than dividend payouts. Yet this could be a mistake. Dividend track records can actually reveal a lot about a company's growth and outlook - not just how much cash is finding its way back into shareholder pockets.

Jim Slater, the famous British growth investor, wrote in his 1992 book The Zulu Principle, that he preferred companies that pay a dividend. He explained:

"...the dividend payment and forecast (if any) to some extent corroborate the management's confidence in the future. The ideal company will have a steadily increasing dividend growing broadly in line with earnings."

What Slater was saying was that the dividend was a useful extra way of figuring out whether a company's growth was likely to continue. Yet many growth investing strategies see dividends as a negative.

Indeed, a traditional view of companies that pay dividends is that they've simply run out of ideas. In other words, they don't know how to grow any further and may have even gone ex-growth. More generally, there's an assumption by growth investors that dividend paying stocks actually deliver lower portfolio returns. But none of this is necessarily true. Research shows that higher yielding stocks actually deliver superior portfolio returns over time.

 The power of dividends

In his book Behavioural Portfolio Management, C Thomas Howard makes the case for high yielding stocks not only outperforming but also producing lower portfolio volatility. He argues that they do better, with fewer stomach-churning swings.

To understand what it is about dividends that makes them so useful, it's worth considering the credibility of all the other ways that management teams signal their confidence to the market. Howard notes that forecasts and projections are often far too optimistic. Meanwhile, financial results and routine earnings updates are either externally audited or bound by strict market rules. By contrast, dividends and dividend policy are almost entirely under the control of management. 

Howard argues that companies tend to be careful about paying out too much but are keen to deliver progressive, sustainable payout growth. So, he says, "by increasing dividend payments, management is actually signalling higher future cashflows, which in turn foretell higher stock returns."

With these conclusions in mind, this week's screen idea is one that plays on the classic Dividend Achievers model of long-term dividend growth in companies with growing earnings and good stock liquidity. A model of this approach tracked by Stockopedia has produced a consistently solid return over the past six years.

Source:  Stockopedia     Past performance is not a guide to future performance

Here is a list of the companies currently passing the Dividend Achievers rules:

Source: Stockopedia          Past performance is not a guide to future performance

Because this screen looks for firms that are growing earnings by more than 10% annually, it naturally gravitates towards smaller, more growth-oriented stocks. Dividend growth streaks vary between five and nine years and the dividend growth over the past year has ranged from around 30% to nearly 100%. 

Topping the list is 4imprint, a direct marketer of promotional products, which enjoys a five-year compound annual growth rate in earnings of 30%, and where dividends were up nearly 100% last year. Also making the list are companies like the specialist concrete levelling business Somero, housebuilder Redrow, recruiter Robert Walters and fund manager Miton.

The stocks passing these rules are likely to be profitable, higher quality smaller companies, which may well be on relatively expensive valuations. 

However, in the search for growth, the presence of a robust dividend track record paired with strong earnings growth has been shown to be a sound basis for portfolio construction. 

Smaller companies are not immune from having to make dividend cuts - and careful research is always important - but in the hunt for growth stock ideas it may pay to take more notice of the dividend track record.

About Stockopedia

Stockopedia helps individual investors beat the stockmarket by providing stock rankings, screening tools, portfolio analytics and premium editorial. The service takes an evidence-based approach to investing, and uses the principles of factor investing and behavioural finance to help investors make better decisions.

Interactive Investor readers can get a free 14-day trial of Stockopedia by clicking here.

These investment articles are simply for generating ideas. If you are thinking of investing they should only ever be a starting point for your own in-depth research.