Australian investors typically gravitate towards local shares given higher dividend yields and franking credits. However, an important part of an income strategy is to include shares that can grow their dividends over time. My colleague Mark LaMonica outlined the benefits in his article on how to build an income portfolio.

These stocks from the Morningstar US Dividend Growth Index have steadily increased their dividends over the past five years, pay out no more than 75% of their earnings in the form of dividends, possess competitive advantages (as measured by the Morningstar Economic Moat Rating), and were trading at among the widest discounts to our fair value estimates as of June 3, 2024.

  1. Albemarle ALB
  2. Baxter International BAX
  3. FMC Corp. FMC
  4. Sirius XM Holdings SIRI
  5. Polaris PII
  6. Lithia Motors LAD
  7. Gilead Sciences GILD
  8. Bristol-Myers Squibb BMY
  9. MarketAxess Holdings MKTX
  10. Comerica CMA

Here’s a little bit from Morningstar analysts about each of the stocks from the list. All data is as of June 3, 2024.

Albemarle

  • Price/Fair Value: 0.44
  • Morningstar Economic Moat Rating: Narrow
  • Forward Yield: 1.32%
  • Morningstar Capital Allocation Rating: Standard
  • Industry: Specialty Chemicals

Albemarle tops our list of cheap dividend-growth stocks and is also a dividend aristocrat, which means it has raised its dividend annually for more than 25 years. Yet Albemarle’s forward yield is among the lowest on our list, serving as a reminder that dividend-growth stocks aren’t necessarily high-yielding stocks. Morningstar strategist Seth Goldstein expects lithium demand to grow at a nearly 20% annual rate by 2030, providing Albemarle with solid dividend growth potential ahead. Albemarle stock trades 56% below our current $275 fair value estimate.

Baxter International

  • Price/Fair Value: 0.51
  • Morningstar Economic Moat Rating: Narrow
  • Forward Yield: 3.40%
  • Morningstar Capital Allocation Rating: Standard
  • Industry: Medical Instruments and Supplies

Of the dividend-growth stocks on our list, Baxter International may require a longer-term mindset than some others. True, the firm can claim top-tier positions in most of its product lines and benefits from switching costs, which underpin its narrow moat rating. However, supply chain disruptions and economic uncertainty stalled Baxter in 2022 more so than some of its peers, observes Morningstar senior analyst Julie Utterback. Perhaps more troubling for dividend-growth aficionados, the company will slow the growth of its dividend as it integrates the Hillrom deal, which negatively affected its net leverage. That being said, Utterback expects Baxter to resume growing its dividend in line with earnings once the firm hits its leverage target, and we think the dividend stock looks cheap, trading 49% below our $67 fair value estimate.

FMC Corp

  • Price/Fair Value: 0.54
  • Morningstar Economic Moat Rating: Narrow
  • Forward Yield: 3.94%
  • Morningstar Capital Allocation Rating: Standard
  • Industry: Agricultural Inputs

FMC is a pure-play crop chemical producer. FMC is also among our analysts’ top 33 undervalued stocks for the second quarter. While we think that the firm’s distributions are appropriate and that the company will generate sufficient cash flows to maintain its dividend, FMC faces moderate cyclicality risk and carries elevated leverage on the books as chemical crop demand is just beginning to recover from a cyclical bottom that led to inventory destocking, explains Morningstar’s Goldstein. We think this dividend-growth stock looks attractive as it trades 46% below our $110 fair value estimate.

Sirius XM Holdings

  • Price/Fair Value: 0.55
  • Morningstar Economic Moat Rating: Narrow
  • Forward Yield: 3.84%
  • Morningstar Capital Allocation Rating: Exemplary
  • Industry: Entertainment

Sirius XM trades 45% below our fair value estimate of $5.00. The company consists of two businesses: SiriusXM and Pandora. Sirius XM management prioritizes shareholder returns, says Morningstar senior analyst Matthew Dolgin; the firm earns an Exemplary Capital Allocation Rating. While its board issued a special dividend in 2022 because of company outperformance in 2021, we don’t expect another special dividend anytime soon, adds Dolgin. First-quarter results were decent, says Dolgin, and management is pursuing a strategy for technology and content investment to drive growth.

Polaris

  • Price/Fair Value: 0.57
  • Morningstar Economic Moat Rating: Wide
  • Forward Yield: 3.21%
  • Morningstar Capital Allocation Rating: Exemplary
  • Industry: Recreational Vehicles

Polaris is one of the longest-operating brands in powersports. Morningstar senior analyst Jaime Katz notes that first-quarter earnings disappointed and the company’s forecast for 2024 is plagued by slowing industrywide demand. We nevertheless expect Polaris to produce strong cumulative cash flow over the next five years and to continue with dividend increases, averaging a 33% payout ratio over the next decade, she adds. This dividend-growth stock to buy trades 43% below our $145 fair value estimate.

Lithia Motors

  • Price/Fair Value: 0.61
  • Morningstar Economic Moat Rating: Narrow
  • Forward Yield: 0.79%
  • Morningstar Capital Allocation Rating: Standard
  • Industry: Auto and Truck Dealerships

Lithia Motors sells new and used vehicles and provides related services, often in rural markets where there are no competitors within 100 miles. This rural focus gives Lithia pricing power and contributes to its economic moat, says Morningstar strategist David Whiston. Whiston calls the balance sheet “healthy” and commends the firm for raising its dividend in 2020 despite the coronavirus pandemic. First-quarter 2024 saw a 6% quarterly dividend increase to $0.53. This cheap dividend-growth stock trades 39% below our $445 fair value estimate.

Gilead Sciences

  • Price/Fair Value: 0.65
  • Morningstar Economic Moat Rating: Wide
  • Forward Yield: 4.86%
  • Morningstar Capital Allocation Rating: Standard
  • Industry: Drug Manufacturers—General

The first of three newcomers to our list of top dividend-growth stocks is drugmaker Gilead Sciences. Gilead maintains a drug portfolio focused on HIV and hepatitis B and C. We think the progress of new long-acting HIV treatments to phase 3 trials is encouraging, and the company’s liver disease portfolio is well-positioned to generate growth going forward, says Morningstar strategist Karen Andersen. We expect the company’s payout ratio likely to rest around 50%, which is reasonable, she adds. We think this dividend stock is worth $97; it’s trading 35% below that.

Bristol-Myers Squibb

  • Price/Fair Value: 0.66
  • Morningstar Economic Moat Rating: Wide
  • Forward Yield: 5.75%
  • Morningstar Capital Allocation Rating: Exemplary
  • Industry: Drug Manufacturers—General

The second newcomer to this quarter’s roster of undervalued dividend-growth stocks to buy, Bristol-Myers Squibb is the highest-yielding stock on the list. Like most drugmakers, Bristol has carved out a wide economic moat thanks to its lineup of patent-protected drugs, an entrenched salesforce, and economies of scale, says Morningstar director Damien Conover. The dividend looks secure, adds Conover, with a current dividend payout ratio well below 50%, which is typical of peers in its industry. The stock looks cheap to us as it trades 34% below our $63 fair value estimate.

MarketAxess

  • Price/Fair Value: 0.66
  • Morningstar Economic Moat Rating: Wide
  • Forward Yield: 1.49%
  • Morningstar Capital Allocation Rating: Exemplary
  • Industry: Capital Markets

The final new name to our list of dividend-growth stocks to buy, MarketAxess is trading 34% below our $300 fair value estimate. A leading electronic bond trading platform connecting brokers/dealers with institutional investors focused on US corporate bonds, eurobonds, and emerging-markets corporate debt, MarketAxess earns a wide economic moat rating. With a strong balanced sheet and good operating cash flow, the company has plenty of room to finance investment spending and shareholder returns, shares Morningstar analyst Michael Miller. Management returns about 30% to 40% of net income to shareholders as dividends.

Comerica

  • Price/Fair Value: 0.68
  • Morningstar Economic Moat Rating: Narrow
  • Forward Yield: 5.72%
  • Morningstar Capital Allocation Rating: Standard
  • Industry: Banks—Regional

Comerica rounds out our list of cheap stocks to buy with increasing dividends. Comerica is largely a commercial-focused bank, with more than 90% of loans related to commercial lending, reports Morningstar analyst Rajiv Bhatia. First-quarter results were steady, but we forecast profitability to worsen over the short term as net interest income continues to decline and expenses trend higher; we expect the pattern to flatten in 2024. We still expect the bank to remain profitable and to easily cover its dividend, says Bhatia. We currently assign a $73 fair value estimate to this dividend-growth stock; it’s trading 32% below that.

What is the Morningstar US Dividend Growth Index?

The Morningstar US Dividend Growth Index focuses on companies with a history of dividend increases and an ability to sustain dividend growth.

The index includes U.S.-based securities that pay qualified dividends and that have increased their dividend payments over the past five years. To gauge the sustainability of dividend growth into the future, eligible constituents must display positive consensus earnings forecasts from the analyst community and must also pay out no more than 75% of their earnings in the form of dividends. Constituents are weighted in proportion to the total pool of dividends available to investors.

Dividend increases and Economic Moats

Morningstar thinks that companies with economic moats have significant advantages that allow them to successfully fend off competitors for decades. Such high-quality companies can carve out their moats in a variety of different ways—by having high switching costs, through strong brand identities, or by possessing economies of scale, to name just a few.

Companies that we think can maintain their competitive advantages for at least 10 years earn narrow moat ratings; those we think can successfully compete for 20 years or longer earn wide moat ratings.

Of course, companies that do not have economic moats can exhibit dividend growth. But for purposes of this article, we included only stocks that have narrow or wide moat ratings, choosing to place our bets with high-quality companies.

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