If you are looking for regular income, Dividend stocks are a good option. Investing in them can be as easy as buying an ETF.
The dividend yield is one of the main factors to consider when investing in dividend-paying stocks. Watch out for dividend traps, however, because stocks having a dividend yield of 10% and above are usually veryrisky investments.
What is a High Dividend Stock?
As you can imagine, high dividend stocks can be extremely appealing. Some investors see them as a higher guaranteed return.
But you may be wondering how much dividend actually qualifies as a high dividend.
That’s the dividend yield that comes in handy. It’s the dividend as a percentage of the stock price.
For example, if a stock priced at $100 pays a $1 dividend, its dividend yield is 1%. The higher the yield, the more money you will get as a dividend in relation to the stock price.
Investing in Dividend Stocks through ETFs
Dividend ETFsoffer a simple and straightforward solution to getting exposure to a specific investing niche — in this case, stocks that pay a regular dividend.
Here’s how to buy a dividend stock ETF:
1. Find a broadly diversified dividend ETF. You can typically find dividend ETFs by searching for them on your broker’s website.
Probably the safest choice is a low-cost fund that picks dividend stocks from the S&P 500 stock index. That offers a broadly diversified package of top U.S. companies.
2. Analyze the ETF. Make sure the ETF is invested in stocks (also called equities), not bonds. You’ll also want to check the following:
The dividend yield. This is how much a company pays out in dividends each year relative to its share price, and is usually expressed as a percentage.
5-year returns. Generally, higher is better.
Expense ratio. This is the ETF’s annual fee, paid out of your investment in the fund. Look for an expense ratio that is under 0.50%, but lower is better.
Stock size. Dividend ETFs can be invested in companies with large, medium or small capitalization (referred to as large caps, mid-caps, and small caps). Large caps are generally the safest, while small caps are the riskiest.
3. Buy the ETF. You can buy ETFs just like you’d buy a stock, through an online broker. A good approach is to buy them regularly, to take advantage of dollar-cost averaging.
Investing in Individual Dividend Stocks
By picking and choosing your dividend stocks, you have the potential to personalize a portfolio and find higher dividends than in an ETF.
1. Find a dividend-paying stock. You can screen for stocks that pay dividends on many financial sites, as well as on your online broker’s website. We’ve also included a list of high-dividend stocks below.
2. Evaluate the stock. To look under the hood of a high-dividend stock, start by comparing the dividend yields among its peers. If a company’s dividend yield is much higher than that of similar companies, it could be a red flag.
At the very least, it’s worth additional research into the company and the safety of the dividend.
Then look at the stock’s payout ratio, which tells you how much of the company’s income is going toward dividends.
A payout ratio that is too high — generally above 80%, though it can vary by industry — means the company is putting a large percentage of its income into paying dividends.
In some cases dividend payout ratios can top 100%, meaning the company may be going into debt to pay out dividends.
3. Decide how much stock you want to buy. You need diversification if you’re buying individual stocks, so you’ll need to determine what percent of your portfolio goes into each stock.
For example, you’re buying 20 stocks, you could put 5% of your portfolio in each. However, if the stock is riskier, you might want to buy less of it and put more of your money toward safer choices.
The No. 1 consideration in buying a dividend stock is the safety of its dividend. Dividend yields over 4% should be carefully scrutinized; those over 10% tread firmly into risky territory.
Among other things, a too-high dividend yield can indicate the payout is unsustainable, or that investors are selling the stock, driving down its share price and increasing the dividend yield as a result.
List of High Dividend Stocks
AbbVie Inc. (ABBV)
LyondellBasell Industries NV (LYB)
Analog Devices, Inc. (ADI)
Principal Financial Group Inc. (PFG)
Costco Wholesale Corporation (COST)
International Business Machines Corp (IBM)
Domino’s Pizza, Inc. (DPZ)
Canadian Imperial Bank of Commerce (CM)
Broadcom Inc. (AVGO)
Cracker Barrel Old Country Store Inc (CBRL)
Universal Corp (UVV)
The Bank of Nova Scotia (BNS)
Federal Realty Investment Trust (FRT)
Bank of Montreal (BMO)
The Benefits of High Dividend Stocks
High dividend stocks offer a few advantages apart from additional income:
1. Cash Flow
Dividends are an easy way to get cash flow off your stocks without having to sell anything. And if you invest through index funds, you’ll get automatic dividend payments every quarter.
It’s like magic, the money suddenly appears in your account.
2. Reinvesting Dividends
You can use dividends to buy additional stock. Over time, the gains from compounding interest on dividends build nicely.
This works beautifully with dividends on index funds. Every quarter, I get my payment and I’ve set Vanguard to automatically reinvest the dividends.
Even if my income drops and I can’t invest like I used to, the dividends buy up more shares every quarter without me having to do anything.
3. Guard Against Inflation
Profits tend to rise along with inflation. As dividends come from profits, they also tend to rise proportionally.
4. Ownership and profits
I bought some Tesla shares 2.5 years ago. They have grown by about 20% since then. But the only way I can enjoy this profit is by selling the stock as Tesla doesn’t pay any dividends.
The situation is different with high dividend-paying stocks. I can continue to own them and still get money from them through dividends.
Dividends are not rainbows. They have some shortcomings too.
1. Slower Growth
While this is not always the case, high dividend stocks can tend to grow slower than those that don’t pay a dividend. This makes sense.
Paying out profits as dividends means less money to reinvest back into the company. That means less growth in the future.
And the slower a company grows, the less its stock price will grow. You might make more in dividends but you’ll make less in the appreciation of your stock price.
2. No Guarantee
A stock might offer a high dividend today but there’s no guarantee that will continue. Companies can cut dividends at any time and you don’t have any recourse if they do.
So tread carefully if you depend on that dividend income. It might not arrive.
One good way around this is to rely on the dividends from index funds. They won’t be higher than normal since indexes match their respective markets but you also won’t be beholden to the dividends from a few companies.
While a company can halt dividends, the market as a whole will keep paying them.
3. If It Looks Too Good to Be True, It Is
Companies know that some investors prefer high dividends. Some of them will juice dividends past what’s healthy in order to attract investors and keep the stock price afloat.
Sooner or later, they won’t be able to sustain it and it’ll all collapse.
Once a company has a reputation as paying out a nice dividend, all future dividend payments get factored into the purchase price of the stock.
And whether you make money from stock appreciation or dividends, the end result is the same. So it doesn’t really matter.
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