HAVE YOU LOOKED

So where can you turn for returns? According to Salomon Smith Barney U.S. Equity Strategist Tobias Levkovich, dividend-paying stocks are worth a look.

"Dividend yields are now larger, on average, than the yields offered on cash," Levkovich wrote in a report published Friday. Let's take a closer look at what this means. A dividend yieldSee SmartMoney Magazine's "The 7% Solution

Of course, investing in stocks is far riskier than investing in T-bills. It's one of those risk/reward trade-offs. But Levkovich says history may provide some good news for stock lovers. "Since 1970, the market has risen by an average of 8.9% in the six months after the convergence of the two yields [that is, the Standard & Poor's 500's dividend yield and the three-month T-bill yield]," he wrote last Friday. Think about it: If stocks offer considerably higher yields than other investing instruments, more folks may flock to these stocks, thus sending share prices higher. Just look at how General Electric benefited last week. After offering a weak outlook for next year, GE said it would boost its dividend payments by 6%, and investors rushed in, sending the stock up 8% in a single trading session.

And we haven't even mentioned the fact that the newly Republican-controlled Congress might be itching to kill the dividend tax which could send investors hurtling toward dividend-paying stocks like never before.

To find stocks that offer both attractive dividend yields and appreciation potential, we turned to our . First, we scooped up 179 stocks that yield more than the S&P 500's average yield (1.9%). Then, we homed in on the companies that increased their earnings last year and are expected to increase them again this year. On top of that, we looked for attractive price/earnings ratios (below 17.5), because these stocks tend to have more room to climb. We also looked at five-year historical returns. Stocks that pay dividends tend to outperform their dividendless peers over time, and we made sure that our screen survivors were no exception.

But we weren't done yet. We also paid close attention to stocks' payout ratios. This expresses how much of a company's profits are doled out as dividends. We looked for companies with lower payout ratios, because they're more likely to boost dividends in the future and invest more in their future growth.

All of this screening netted us 13 stocks, 11 of which hail from the financial sector.

The survivor with the lowest payout ratio of them all was mortgage investment company Fannie Mae. Fannie has seen its profits grow alongside the heady housing market of the last few years. With mortgage rates dipping below 30-year lows, demand for mortgages remains high. We noted that Fannie Mae currently pays out only 20% of its annual profits to its shareholders in the form of dividends. So if the housing market should head south, Fannie Mae has extra leeway to boost dividends (or at least keep them steady). That could keep shareholders happy.

Yet, Fannie Mae's $64.85 share price and $1.32 in annual dividends indicates a 2.04% yield. That's better than average, but it's the lowest yield among our screen survivors. When we looked for stocks with higher yields that still have relatively low payout ratios, we came to insurer Jefferson Pilot and bank Washington Mutual. These two financial stocks pay less than a third of their profits out as dividends, yet have yields of more than 3%. We think that's a good combination of hearty profits and hearty payments with room left to grow.