Dividend yield is a hot topic in investing!
Before you invest in high dividend yield stocks,
it is important to understand the dividend
yield formula, but also to have an idea
of the risks of only looking at dividend yield.
How to calculate and use dividend yield?
Watch the whole video to see
both the pros and the cons of dividend yield.
Examples of industries where dividend traditionally has been high
are oil, commercial real estate
and telecom.
In the current low interest rate environment,
you make very little return putting your money
in a savings account or treasury bonds.
That's why many investors turn to
high dividend industries with relatively
low share price volatility to invest.
A cash dividend is a cash payment
from a company to its shareholders.
Let's look at the dividend for two companies
in the telecom industry: AT&T and Verizon.
If you go the investor relations websites
of these companies,
you will see an overview
of the historical dividends that they have been paying.
In the case of AT&T the current quarterly dividend
in the spring of 2017 is 49 cents
per quarter.
49 cents per quarter equals $1.96 per year,
assuming the dividend level stays unchanged.
For Verizon, the current quarterly dividend
is 57.75 cents per quarter, which translates
to $2.31 per year.
So is Verizon a more attractive investment,
as they pay a higher absolute amount of dividend?
To answer that question, one of the things you could do
is to make a relative comparison.
In order to start receiving dividends,
you will have to buy shares in the company.
How attractive is the dividend
compared to the share price?
The formula for dividend yield is annual dividend divided by the share price.
Let's make that calculation for both AT&T and Verizon.
AT&T has an annual dividend of $1.96
and a closing share price per April 5th 2017 of $41.02.
AT&T's dividend yield is therefore 4.8%.
Verizon has an annual dividend of $2.31
and a closing share price per April 5th 2017 of $48.44.
Verizon's dividend yield is therefore also 4.8%.
So in this case,
dividend yield is not going to help you distinguish
whether you should
invest in AT&T or Verizon.
Familiarize yourself with the company's
strategic direction and ambition, as well as its financial
performance.
Review the latest annual report in detail,
including its "Letter to the Shareholders",
which I think is a great start to learn more
about a company.
Maybe you should invest in both companies
as 4.8% dividend yield sounds attractive,
or alternatively stay away from telecom altogether
if you are not excited about its prospects.
What are some of the pitfalls
of using dividend yield
as one of the main criteria for making
investment decisions?
You might not be seeing the whole picture!
Here are five things you must be aware of.
Strategic risk.
I bet that companies producing horse-drawn carriages
were doing very well in the 1880's,
generating lots of profit and cash,
and paying hefty dividends.
Unfortunately, the product was at the end of its lifecycle,
and would soon be superseded.
Ask yourself this question:
At what stage of its lifecycle is the company
that you are
looking to invest in?
Cash flow.
If cash balance is the water level in a bathtub,
then cash flow is the water flowing in and
the water flowing out.
Is the company that you are looking to invest in
generating enough cash from operating activities
to be able to pay dividends?
Or are they having to sell business units
or increase debt?
Learn how to read a cash flow statement
in the Finance Storyteller video that I will
link to.
The turkey problem.
A turkey or chicken that has been fed every single day
for a thousand days,
and has extrapolated
that to a very bright future ahead,
will be very surprised to have its head chopped off
on the next day.
The same can apply to stocks.
I have heard the CEO of a very large global company
say that the dividend is secure, only
to renege on that promise shortly thereafter
by having to cut the dividend by two-thirds.
Neither the dividend nor the share price
has recovered since then, I have been waiting
almost 10 years!
Pay out versus invest.
Why is a company paying such a high dividend?
Are they financially healthy,
and want to reward shareholders
by paying out dividends,
or have they run out of ideas of how to invest money
in R&D or acquisitions?
What is the best place for the cash,
in the pockets of investors by paying dividends,
or in exciting growth projects inside the company
that promise larger dividends in the
future?
Lastly, math is just math.
Dividend yield is
the annual dividend divided by the share price.
Today's dividend might be $4,
and today's share price $100,
hence the dividend yield
is 4%.
If the company continues to do well,
and generates lots of profit and cash flow,
tomorrow's dividend
might be $8.
If investors are very excited
about the company's strategy and financial performance,
the share price could have increased to $200.
The dividend yield is still 4%,
but I am very happy as I could sell the share today for
double the amount I bought it for.
The opposite might also be true.
The company's profit and cash flow performance
has deteriorated,
the dividend has been cut
to $2, and as investors are less excited
about the company's strategy and financial performance,
the share price could have decreased to $50.
The dividend yield is still 4%,
but I am very sad as I can sell the share today for only
half of the amount I bought it for.
In summary, use dividend yield where appropriate,
but look at the broader context before investing
in the stock market!
Thank you for watching!
If you enjoyed this discussion of
how to calculate and interpret dividend yield,
then please
press the "like" button for me,
and share the video with friends and colleagues!
On this end screen,
there are a few suggestions of videos you can watch next.
Please subscribe to the Finance Storyteller channel,
so you can stay up to date on my
latest videos for free!
Thank you.