Investing in High-Yield Dividend Stocks

When people learn that I am an income investor, the reaction is often a desire to discuss high-yield investments. The uninitiated commonly confuse income investing with high-yield investing. The two are not the same.

High-yield investing often carries a greater degree of risk than I am willing to accept. Recently, a reader alerted me to an article describing a 20-year study by the Schwab Center for Financial Research demonstrates that investments with the highest yields don’t necessarily provide the highest returns and offers a safer way to implement a high-yield approach. Here are some key excerpts from the article:

• Stocks with the highest dividend yield haven’t provided the best total return.
• Research found the highest-yielding stocks had twice as many dividend cuts as the other dividend-paying groups.
• Price momentum is a stock indicator based on the idea that stocks that have been outperforming in the past will continue to do so.
• A simple screen using the six-month price momentum strategy applied to the highest-yielding stocks can help you pick the best performers.
• The screen is implemented using:
  • Stocks in the S&P 500, 400 and 600 indexes.
  • Dividend Yield and click the dividend yields greater than 1.5 times the S&P 500 yield.
  • Capture analyst ratings.
  • 6 Months Price Performance > Price Change.
  • Sort by price performance and select the highest analyst ranked stocks within the top 45.

Since the article was very Schwab specific, I tried to generalize the above screen. If you have a Schwab account, please refer to the article for more specific instructions.

So, what does all this mean? If you are an income investor that enjoys trading instead of buy and hold, then this may be something you want to explore further. However, the 11.5% earned with this strategy vrs. the 10.73% for dividend stocks not in the highest yielding group hardly seems worth the effort.

For me, I will continue to focus on high-quality dividend stocks at lower, but growing, yields. However, for those looking to bump their yield a little, below are several Dividend Aristocrats and Achievers that are currently yielding more than 5%:

CenturyLink Inc. (CTL) – Aristocrat – Yield: 8.6%
Lilly Eli & Co. (LLY) – Aristocrat – Analysis -Yield: 6.0%
Integrys Energy Group Inc. (TEG) – Aristocrat – Yield: 7.8%
Consolidated Edison Inc. (ED) – Aristocrat – Yield: 5.8%
Progress Energy Inc. (PGN) – Achiever – Analysis – Yield: 6.5%
Realty Income Corp (O) – Achiever – Yield: 7.1%
Health Care Property Investors, Inc. (HCP) – Achiever – Yield: 6.8%
Cincinnati Financial Corp. (CINF) – Aristocrat – Yield: 6.2%
Leggett & Platt Inc. (LEG) – Aristocrat – Analysis – Yield: 5.7%
Pitney Bowes Inc. (PBI) – Aristocrat – Yield: 6.0%
AT&T Inc. (T) – Achiever – Yield: 6.2%
Black Hills Corp. (BKH) – Achiever – Yield: 5.8%
Capital City Bank Group (CCBG) – Achiever – Yield: 5.6%
Universal Health Realty Income Trust (UHT) – Achiever – Yield: 7.5%

This by no means is an endorsement of the above stocks. If you are looking for high-yields, you might lower your risk some by looking at a pool of stocks that have a long history of increasing their dividends.

Disclosure: Long CTL, LLY, TEG, ED, PGN, O, HCP . See a list of all my income holdings here.

Comments

[Dividend Gr...:]

I agree that most people end up chasing highest yielding stocks, and they do project current yields onto the future, without taking into account how sustainable the actual dividend payment is.

I have found that a balanced approach between dividend growth and capital gains works best for me; I do enjoy having stable dividend payments over time which are increasing at least once/year. Having fluctuations in dividend payments makes it tougher to budget your monthly expenses...

Oct 13 01:00 PM

[Shishir Nigam:]

To draw an analogy, picking a stock with the highest dividend yield is a little like picking the stock with the highest P/E. The higher the P/E, the more "perfectly" the stock is priced and the slightest let-down versus expectations will cause price drops.

The higher the dividend yield, the more likely it is that the company is giving out too much by way of dividends and will have little room to maneuver financially - making it more likely to cut it when the slightest deterioration in conditions is experienced.

Check out more analysis at: youngandinvested.com

Oct 13 09:54 PM

[YoYoMama:]

I suppose what makes a stock "high yield" is in the eye of the beholder. In my portfolio, the stock recommendations above would be considered in the median. "High" for me is above 10%.

"Sustainability" is also individualized for each stock. There are MLPs and CEFs whose sole purpose and objective is to provide a high amount of income. Therefore, there is not a problem with high dividend yield, because that is the goal from the outset.

"High risk" is also in the eye of the beholder, or rather, in the ability of the portfolio manager to manage the risk. If you wish to invest in these "riskier" equities, one should be prepared to keep a watchful eye on one's portfolio. If one can do that, it can be worth the risk.

As for me, I work from home, and I have the ability to keep my Scottrade accounts visible on my computer at all times. I have been able to successfully manage risk because of my personal availability. As a result, my portfolio since March has increased over 90%. When the market fluctuates downward, I have also been able to "beat the market" by minimizing losses.

If one does not have the luxury that I do have having visibility to my portfolio at all times, then I would agree that it may not be best to invest in "riskier" equities.

Oct 14 09:54 AM

[David Van K...:]

Good article.

The combination of "trading" with "income investor" seems oxymoronic. "Trading" implies high frequency capture of capital gains (and hightailing it out of there when the position is a loser). "Income investor" implies someone who views the major value of their holdings as residing in their ability to churn out ever-increasing levels of income...with less interest in current price levels.

I am aware there is a strategy called "dividend capture" that attempts to buy stocks just in time to get the dividend and sell them as soon as possible thereafter, hopefully without their price having dropped as much as (or more than) the dividend that was received. I'm sure some people are successful at that.

But after several years of dividend investing, I have become convinced that the best way to maximize returns is to have a strategy specifically focused on long-term holding-and-collecting of dividends. (Depending on the phase of life one is in, one can either re-invest those dividends or take them as current income.) Hopefully over long periods of time, there will be capital gains too, but the main focus is on the ever-increasing dividend stream.

Oct 14 10:01 AM

[YoYoMama:]

I don't think either Dividend Growth Investor or myself are employing dividend capture techniques (I know I'm not). It's just we are mindful of capital appreciation or depreciation of our holdings. It is a mixed strategy, and although you have a problem understanding it (is it because you can't, or won't, understand?), it works for me.

I am hoping you will get off the band wagon of "you can't do that" when persons mix strategies. At the end of the day, there is no "right" or "wrong" way to invest. There is only what works for you. Your way is not the only way.

On Oct 14 10:01 AM David Van Knapp wrote:

> Good article.
>
> The combination of "trading" with "income investor" seems oxymoronic.
> "Trading" implies high frequency capture of capital gains (and hightailing
> it out of there when the position is a loser). "Income investor"
> implies someone who views the major value of their holdings as residing
> in their ability to churn out ever-increasing levels of income...with
> less interest in current price levels.
>
> I am aware there is a strategy called "dividend capture" that attempts
> to buy stocks just in time to get the dividend and sell them as soon
> as possible thereafter, hopefully without their price having dropped
> as much as (or more than) the dividend that was received. I'm sure
> some people are successful at that.
>
> But after several years of dividend investing, I have become convinced
> that the best way to maximize returns is to have a strategy specifically
> focused on long-term holding-and-collecting of dividends. (Depending
> on the phase of life one is in, one can either re-invest those dividends
> or take them as current income.) Hopefully over long periods of time,
> there will be capital gains too, but the main focus is on the ever-increasing
> dividend stream.

Oct 14 11:04 AM

[Low Sweat I...:]

I liked this article a lot because it is well researched, well balanced, and lays out choices for the reader to consider.

For a quick snapshot of performance differences between relatively high-yielding and moderate-yielding dividend-growers, investors can also look at some of the dividend-growth ETFs.

The Vanguard VIG has solidly outperformed popular high-yield dividend-growth ETFs (such as SDY) both in terms of better price appreciation and fewer portfolio dividend blow-ups.

Oct 14 12:21 PM

[David Van K...:]

Hi YoYo,

I am glad that your strategy works for you. Sincere congratulations. I certainly understand the mixed strategy, and the fact that there is no one "right" way to invest.

I re-read my post, and I don't think it says "you can't do that." That certainly was not my intent. I was simply reporting on my own experience, coming from the point of view of someone who does not keep my eye on my portfolios all the time and does not want to.

For capital appreciation, I use a separate portfolio, different stocks/ETFs, and protect myself on the downside with trailing sell-stops, because I don't want to watch that portfolio all day either. Yeah, that allows me to utilize a strategy that is focused on capital appreciation alone...dividends play almost no role in that portfolio.

Again, and I am sincere when I say this, I am glad that you are having success with your approach.

Oct 14 01:49 PM

[jculley:]

Ok, who has ideas on where to put new money now? As an alaska resident with a family, the influx of cash from the Permenant Fund Dividend has made its way into my various investment accounts. I utilize a dividend growth strategy (as evidenced by who I follow on here) and I track around 60 stocks at any given time.

With the runup from March, every last one I follow has risen enough to drop into the "hold" catagory. I am just stumped. I don't mind sitting in cash but I thought I would ask for ideas in this thread, given that the 4 people I most respect for investment advice/suggestions have posted here.

Oct 14 03:06 PM

[David Van K...:]

jculley,

This may be a lame answer, I don't know. But when I have new money (from incoming dividends) to invest in my dividend portfolio, I look to increase (or at least maintain) the quality of the portfolio. Admittedly that gets tough when valuations are not favorable...you have to make a call whether your total returns are likely to be better somewhere else or invested in dividend stocks.

Assuming you conclude that investing in dividend stocks is likely to be better than the alternatives, I tend to favor investing in companies that have given a sign of their confidence in the future. The sign they give is the most recent percentage increase in their dividend.

Especially for a dividend-oriented company, they do not want to push their dividend to an amount that they will have to freeze or decrease in the future. They cannot see infinitely nor perfectly into the future, of course, but they can see farther and better than we can--they are insiders, we are outsiders. So, if other factors that I can evaluate are favorable or at least neutral, I tend to go with the company that raised its dividend the most on a percentage (not dollar) basis.

So, for example, earlier this year I purchased more shares of Abbott Labs, because they increased their dividend 11%. I follow 40 stocks (creating a new list each year), and other top candidates among them based on the same factor would be Coca-Cola (8% increase), Alliant Energy (7%), Colgate-Palmolive (10%), McDonalds (10%), and Procter & Gamble (10%).

Best of luck!

Oct 14 04:12 PM

[Low Sweat I...:]

Alaska oil money! Good for you.

I’m definitely not qualified to advise anyone on anything, but some of the high yielders and dividend-growers listed in the article and comment above seem like they might be worth looking into.

One thing I’ve found since the March run-up: lagging stocks often have some worries attached to them. I just wrote an article about one that I own, PAYX.

Worries about the employment market and the company’s dividend payout vs. earnings recently pushed the stock down, but their cash flow coverage and fundamentals are strong, and a deep-diving Morningstar analyst sees the business recovering from the cyclical hit it’s been taking.

Meanwhile, PAYX just announced they will keep the dividend as is, yielding about 4.3%. They last froze the dividend in the tough 2002 business cycle, then went on to increase it the next six years in a row, until this year. I think they increased the dividend for something like 19 of the last 21 years.

Some risk here? Sure, but there are worse things than getting into superb companies when a bad economy attaches a little bit of worry to them.

Hope this helps – I know you always do your own homework, so maybe there’s not much news for you in this.

On Oct 14 03:06 PM jculley wrote:

> Ok, who has ideas on where to put new money now? As an alaska resident
> with a family, the influx of cash from the Permenant Fund Dividend
> has made its way into my various investment accounts. I utilize
> a dividend growth strategy (as evidenced by who I follow on here)
> and I track around 60 stocks at any given time.
>
> With the runup from March, every last one I follow has risen enough
> to drop into the "hold" catagory. I am just stumped. I don't mind
> sitting in cash but I thought I would ask for ideas in this thread,
> given that the 4 people I most respect for investment advice/suggestions
> have posted here.

Oct 14 05:51 PM

[long term w...:]

What percentage of earnings should a company pay in dividends?

Nov 09 07:57 PM

[coolsoupy:]

Percentage of earnings as dividends depends on what type of company.
REIT's payout 90% to keep their tax exempt status.
MLP's payout high dividends as well.
Owning growth companies is for the young (and foolish?)
As we get older and looking for an income stream we want money not hopes and promises. Too often the large corporations pay their exec's excessive salaries plus bonuses and damned be the shareholders. Think AIG, Citi GM and all the others that we had to bail out.
Established high dividend aristocrats pay from 20-40% of earnings.
If you are a dividend oriented investor you should try Dividend Detective for a few months. ($15/mo. And you can quit anytime.) It is very easy to read and packed with most listed dividend stocks.
I also subscribe to High Yield Investing = Carla Pasternak has some good ideas but as always you have to do your own due diligence.
I sell covered calls on some of my stocks to enhance the income. With any luck you can get 12% - 14% / yr. on a stock like Verizon.
For a fun site go to Stockgumshoe.com

Nov 13 08:51 PM