Chasing Dividend Yield

by: Rob Ward

This article is intended to open up a discussion on individual investors criteria for stock selection. So please give your 2 cents worth. Dividend growth investing is all the rage today it seems. I will admit that i have a soft spot in my heart for it as well. The question is: when does it become a yield chasing trap?

Many investors use a high dividend yield (many over 4%) as a prerequisite for purchasing a stock. This strategy will leave out a significant portion of the market as a whole. How many great companies will never make it on your short list of stocks to purchase because they do not pay a dividend, or not a high enough one? Roughly 20% of the S&P 500 does not pay a dividend, while about 50% of the NASDAQ 100 does not.

A few examples:

Intel (NASDAQ:INTC) yields 4.5% currently. In the past 5 years, the stock has gone from $25 to $20, while you would have collected $3.50 in dividends. This stock seems to find its way into almost all dividend growth portfolios. In the same technology sector, stocks like Apple (NASDAQ:AAPL), Google (NASDAQ:GOOG) and IBM (NYSE:IBM) that pay little or no dividend have benefited from share price appreciation.

Waste Management (NYSE:WM) yields 4.5% currently. The 5 year track record goes from $34 to $32. You would have collected enough dividends to turn a profit at least. Not putting low yield stocks like Caterpillar (NYSE:CAT), Cummins (NYSE:CMI), or AO Smith (NYSE:AOS) into the industrials discussion would have been a mistake.

Exelon (NYSE:EXC) yields 7.2% currently. This stock has one of the worst 5 year charts in the utility sector, going from $81 to $30. There are many other players in the utilities sector that pay over 4% and have been much more stable; Duke (NYSE:DUK), Edison (NYSE:ED), and Southern Company (NYSE:SO) to name just a few.

Pitney Bowes (NYSE:PBI) yields a whopping 13.6% currently, and no, it is not a mREIT. The past 5 years have been a losing battle for the stock, dropping from $38 to $11. There are so many other great stocks in the consumer sector (many of which pay juicy dividends) that are much safer choices. Companies like Coke (NYSE:KO), Disney (NYSE:DIS), and Wal-Mart (NYSE:WMT) have dividend yields lower than 3%, but are doing well at increasing their book value, earnings and dividends along the way.

Best Buy (NYSE:BBY) yields 4.9% currently. The past 5 years the stock has declined from $48 to $13. Many see their business model as broken, as companies like Amazon (NASDAQ:AMZN) and even Wal-Mart (WMT) have taken their share in the electronics space.

Dell (NASDAQ:DELL) yields 3.5% currently. Their 5 year chart goes from $24 to $10. They have had a hard time dealing with the leap away from desktop computers to mobile. The profits are declining, but still positive. The dividend was just initiated and may be an attempt to create some interest in the stock.

Conclusion: This article is not intended to downplay dividend stock investing. As I said at the beginning of the article, I am myself an investor who looks for strong dividends at an attractive price. I think too many people put a certain yield limit on their stock purchases that makes them not consider some great companies. The higher you place that yield limit, the more you risk finding yourself chasing yield. I see those 6 stocks mentioned in a lot of portfolios because of their yields. Personally, I look for annual dividend increases, book value increases, payout ratios under 60%, and earnings per share most of all.

What investing criteria do you use to avoid chasing yield?

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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