Delightful dividends: funds that focus on companies that share profits with shareholders are smart investments.

This past summer, Alan Greenspan set off a rise in interest rates that many experts believe is only the start of a steady increase. If you are invested in stocks and equity mutual funds, this could well signal a period of low or no returns since higher rates generally lure investors out of stocks.

Historically, however, there's been a notable exception. Companies that pay a portion of their profits to shareholders in the form of dividends tend to see their share prices hold up better when rates climb. The reason is simple--their financials are typically strong enough to "allow management to hand out a portion of the company's cash reserves. Also, when stocks stall, investors often flock to dividend yields as a source of returns. In fact, dividend yield has made up about 40% of the S&P average annual total return of 10.5% since 1926. "You could argue that yield is an indicator of quality earnings since companies need to have steady profits to pay dividends," says S&P Strategist Sam Stovall.

There are high-yielding equity mutual funds that take advantage of the track record of such companies. They collect company shares, often with an eye to maximize the dividend income their fund amasses over time. Morningstar Analyst and Certified Financial Planner Paul Herbert says many of these funds tend to be invested in large company shares because big corporations usually have the means to pay dividends. Many of the funds that pursue dividend yields will have the words 'equity income' in their name as well. Investors can check for high-yielding equity funds by comparing the fund's yield to the 1.6% figure offered by the S&P 500 Index, a benchmark covering the overall market.

Recent changes that have lowered taxes on dividend yield distributions have prompted a number of mutual fund companies to create high-yielding mutual funds to market. If you hold a high-yielding equity fund in an IRA or tax sheltered account, you needn't worry. You won't be taxed on the dividend distributions your fund pays out to you. If you hold a high-yielding equity fund in a taxable brokerage account, you may have to pay taxes on that fund's dividend distributions. Check your fund's brochure for details.

With the help of mutual fund tracking firm Morningstar, we sifted through the universe of high-yielding funds in the hopes of unearthing a few good candidates. We subtracted sector funds, particularly utilities and those that focus on real estate investment trusts (REITs), since narrowly focused funds often undergo violent swings of fortune. We also focused on funds with at least a five-year track record in order to identify sound management. That way you can see how funds have weathered the 2000 to 2002 bear market, a good indicator of how they might fare in other downturns.

Our list was headed up by Dodge & Cox Stock (DODGX), a fund that was closed to new investors when this article was written. Its track record is strong, however, and you might want to check back in the future to see when it is taking newcomers again. A strong second place finisher was WM Equity Income A (CMPBX), an offering that investors in large companies sell at a discount to the market or their industry peers. The WM fund has managed a 7.44% average annual total return over the last five years. More importantly, it has logged a 6.89% figure for the three-year period ended June 30, 2004. Its dividend yield of 1.8% was above that of the S&P 500 as well.

SunAmerica Value A (SSVAX) is another steady, long-term performer we recommend. It has posted a 5.60% average annual total return over the last five years and a 6.86% average annual total return over the last three years.

HIGH-YIELDING MUTUAL FUNDS
RANKED BY 5-YR. ANNUALIZED RETURNS

                                        12-Month  1-Yr. Total
Name                            Ticker   Yield      Return

Dodge & Cox Stock               DODGX     1.36%      25.07%
WM Equity Income A              CMPBX     1.79       21.98
SunAmerica Value A              SSVAX     2.12       14.77
Scudder Dreman High Return Eq   AKDHAX    1.50       18.24
T. Rowe Price Equity-Income     PRFDX     1.49       17.76
Lord Abbett Affiliated A        LAFFX     1.47       19.44
Hennessy Cornerstone Value      HFCVX     1.74       20.74
Evergreen Large Cap Value       AEILAX    1.31       18.83
American Funds American Mutual  AAMRMX    2.03       15.43
Franklin Equity Income A        FISEX     2.05       18.81

                                3-Yr. Annualized  5-Yr. Annualized
Name                              Total Return      Total Return

Dodge & Cox Stock                    6.61%             9.92%
WM Equity Income A                    6.89              7.44
SunAmerica Value A                    6.86              5.60
Scudder Dreman High Return Eq         1.01              4.90
T. Rowe Price Equity-Income           2.60              3.96
Lord Abbett Affiliated A              0.13              3.89
Hennessy Cornerstone Value            1.14              3.76
Evergreen Large Cap Value             0.74              3.74
American Funds American Mutual        3.15              3.62
Franklin Equity Income A              1.11              3.43

                                Minimum Initial
Name                                Purchase        Phone Number

Dodge & Cox Stock                    $2,500         800-621-3979
WM Equity Income A                    1,000         800-222-5852
SunAmerica Value A                     $500         800-858-8850
Scudder Dreman High Return Eq         1,000         800-621-1048
T. Rowe Price Equity-Income           2,500         800-638-5660
Lord Abbett Affiliated A                250         800-201-6984
Hennessy Cornerstone Value            2,500         800-966-4354
Evergreen Large Cap Value             1,000         800-343-2898
American Funds American Mutual          250         800-421-0180
Franklin Equity Income A              1,000         800-342-5236

SOURCE: MORNINGSTAR INC.

MORNINGSTAR MAKES EVERY EFFORT TO ENSURE THE COMPLETENESS AND
ACCURACY OF THIS DATA BUT CANNOT GJARANTEE IT.