No one can predict what global markets will do in 2018. They may continue rising or they may fall. Therefore, it's impossible to say which stocks will perform the best next year. Having said that, in my opinion you can't really go too far wrong by selectively adding some high-quality dividend growth stocks to your investment portfolio next year. Here are four reasons why.
Growth vs value
2017 has been a fantastic year for growth investors. Many growth stocks, both large and small, have put in spectacular performances. In contrast, many value stocks have been neglected. This differential is illustrated well by comparing the performances of growth investor Nick Train vs value investor Neil Woodford. Over the last 12 months, Train's UK Equity fund has returned over 20%. Woodford's flagship fund, on the other hand, has barely outperformed cash.
Can this continue though? I'm not so sure. At some stage in the future, there's likely to be a reversion. Value stocks will become popular again. That's where dividend stocks could benefit, because many stocks that pay high dividends also offer strong value. For example, Lloyds Banking Group offers a prospective yield of 6.2% right now, yet can be bought on a P/E ratio of under 10. Similarly, Aviva offers a prospective yield of 5.3% yet also appears to offer value, trading on a P/E of just over nine. If value investing regains popularity, these kinds of stocks could benefit.
Inflation and low interest rates
It's a nightmare environment for savers right now. Savings account interest rates are truly abysmal. It's hard to find an account that pays over 1.5% at present. Furthermore, inflation is high at around 3%. This means that money parked in cash is losing purchasing power over time. The solution? Dividend-growth stocks.
The beauty of dividend-growth stocks is that they can offer a high yield right now, as well as strong yield growth that outpaces inflation, in the future. So turning back to Lloyds and Aviva, not only do both offer excellent yields now, but they are forecast to increase their dividends by 12% and 9% respectively in FY2018. That's how you beat inflation and low interest rates.
Dividends power the stock market
It's also worth remembering that dividends make up a sizeable contribution to the total returns from the stock market. For example, for the 10-year period to the end of 2016, the FTSE 100 returned just 15% without dividends. Add in dividends (reinvested) and the total return of the index jumped to 67%. With those figures in mind, can you afford to ignore dividend-paying stocks?
Lastly, dividends have the potential to really enhance your financial freedom. By putting together a portfolio of high-quality dividend-growth companies, you could generate an independent income stream that grows every year. Thinking of retiring early? Quitting your 9-to-5 job? Playing more golf? Travelling more? Dividends could help you get there.
Edward Sheldon owns shares in Lloyds Banking Group and Aviva. The Motley Fool UK has recommended Lloyds Banking Group. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.