What is Dividend Yield?
Dividend yield is a financial ratio that shows how much a company pays out in dividends each year relative to its stock price. It is calculated by taking the annual dividend per share and dividing it by the price per share.
How to calculate dividend yield?
Well, it’s relatively simple. For example, if a stock is trading at $50/share and the annual dividend is $2/share, the dividend yield would be 4% ($2 / $50 = 0.04 or 4%).
This means for every $50 invested in the stock, it would generate $2 in annual dividend income.
The dividend yield is expressed as a percentage and is used by investors to compare dividend-paying stocks. It helps determine if the dividends are generous and worth investing in.
Stocks with higher dividend yields tend to be more mature, stable companies that generate consistent profits. These are the types of companies I like to sell options on.
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Why Dividend Yield Matters
The dividend yield is an important metric for investors who rely on dividends as a source of income. It shows how much income you can expect to generate from owning the stock based on its current share price and dividend policy.
Some key reasons why dividend yield matters include:
- Income generation – The dividend yield helps estimate dividend income you may receive. Higher yields can generate more income.
- Stock valuation – High dividend yields can indicate a stock is undervalued or the dividend is especially attractive. However, unusually high yields may indicate issues with sustaining the dividend.
- Stability – Mature companies tend to have stable, consistent dividend yields over time. Unstable or fluctuating yields may signal issues.
- Stock comparisons – The dividend yield is used to compare dividend stocks within sectors or markets. Higher yields may be more appealing for dividend investors.
- Portfolio diversification – Dividend stocks help diversify portfolios beyond just growth stocks. Dividend yield helps identify stocks for a dividend strategy.
How Dividend Yield Changes
A stock’s dividend yield is dynamic and fluctuates over time as the stock price changes. If the stock price increases but the dividend stays the same, the yield will fall. If the stock price declines but the dividend is unchanged, the yield will rise.
Some common reasons dividend yields change include:
- Stock price changes – As noted above, stock price appreciation lowers yield and stock declines increase yield.
- Earnings changes – Poor earnings may cause a company to cut its dividend, resulting in a lower yield. Strong earnings could allow for dividend increases.
- Interest rates – As interest rates rise, dividend stocks become less attractive. Investors may sell them, driving prices down and yields up.
- Investor preference – Shifts between preferred investment styles, such as growth vs. value, can impact dividend stock demand and yield.
- Inflation – Rising inflation can decrease real dividend value, likely resulting in lower prices and higher yields.
- Business conditions – During recessions, dividends are at more risk of being cut, causing volatility in yields.
Given the variability, most investors look at historical averages and trends rather than focus too narrowly on spot dividend yields.
What is a Good Dividend Yield?
Whether a dividend yield is considered good or not depends significantly on current market conditions and investor objectives.
Typically, higher dividend yields are more desirable for income investors.
Good dividend yields tend to be ones that are sufficiently above bond yields and average market yields. However, very high dividend yields can indicate underlying business problems with excessively high payout ratios.
Some general guidelines on attractive dividend yields include:
- S&P 500 yield – The S&P 500 index current has a dividend yield of approximately 2%. Yields higher than this may be appealing.
- Bond yields – Yields that are competitive with or higher than 10-year Treasury bond yields tend to attract more investor interest.
- Historical averages – Looking at a stock’s historical dividend yield average can provide a baseline for comparison.
- Utilities/REITs – These sectors tend to have some of the highest dividend yields, so yields above 4-6% can be considered solid.
- Blue chip stocks – For mature, blue chip companies, yields in the 3-5% tend to range tend to be considered good.
Author's Note: Here is a list of the top 39 UK dividend paying stocks for 2023 and beyond.
Always be sure to analyse the dividend payout ratio, business outlook, and risk factors to determine if an above-average yield is sustainable or the result of issues.
Maximising Dividend Yield
For investors focused on generating dividend income, there are some strategies that can help maximise the dividend yield on your portfolio:
- Prioritise dividend stocks – Allocate more portfolio weight to stocks with attractive, reliable dividend yields compared to non/low dividend payers.
- Learn to sell options: You can supercharge your income returns by selling puts on dividend stocks you want to own and once you own them you can begin selling covered calls. This is a great way to take a 5% annual dividend yield portfolio to a 15-25% return portfolio.
- Choose stocks across yield ranges – Include a mix of moderate yielders (3-4%) and higher yielders (5%+) for diversification.
- Reinvest dividends – Continually reinvesting dividends allows for accumulation of more shares and greater compounding.
- Utilise dividend ETFs – Gain exposure to baskets of dividend stocks efficiently through dividend-focused ETFs.
- Favour dividend growers – Companies consistently growing their dividends tend to be good long-term performers.
- Add preferred shares – Preferred stocks can offer high yields more akin to bonds but with upside potential.
- Consider MLPs/REITS – These alternative assets classes allow for yields often 5-10% or greater.
- Manage risk – Focus on dividend sustainability and be wary of excessively high yields that may not last.
The dividend yield is a key factor for income investors to assess. By looking at the yield in context and pursuing a dividend strategy, you can maximise the dividend income potential from your stock portfolio.
Plus, once you layer on selling options on your dividend stocks it can make a huge difference to your annualised returns.
Oh, by the way, if you’d like to earn more passive income from selling options on your favourite dividend stocks my small but mighty Options Selling Roadmap will take you from soup to nuts. Plus, it’s FREE!
How to find dividend yield?
There are a few simple ways to find a stock’s dividend yield:
Dividend per share: Find the company’s annual dividend per share amount, usually listed as “DPS” or “Div/Share”.
Stock price: Find the current trading price per share of the stock.
Calculate: Take the DPS divided by the share price to get the dividend yield percentage.
Company reports: Annual reports and investor relations pages will often state the company’s dividend yield.
Screeners: Use stock screening tools to scan and filter stocks by certain dividend yield criteria. Also check out TradingView which now displays dividend results for each stock ticker.