Investing is a crucial decision to make. If you don’t want your invested bucks to go down the drain for nothing, you need to take some important things into consideration. For one, you need to see to it that your investment will generate profit for you. Additionally, you need to ensure the security of your investment if you want to make it last long and profitable.
Now as far as making an investment is concerned, dividend paying stocks are among the most popular options. A lot of expert and veteran stock market players will tell you that going for such makes an ideal decision. Given that, here are some of the main benefits of going for the best dividend paying stocks:
Better return on investment (ROI)-Obviously, nobody wants to invest big and not getting a constant and good investment return. There are some companies that do dividend paying stocks to pay out dividends to their shareholders and only retain their earnings as an additional investment. Although this is not entirely a bad idea, you won’t be able to clearly point out whether you are getting high investment returns or not. But by picking the best dividend paying stocks, it would be more apparent to you that your investment is highly profitable.
Security for investments– A good return on investment is never enough. If you want a profitable and long term investment, you need to make it a point that you buy stocks that are highly secured. With the top dividend stocks, you can be rest assured of an investment that is strong and stable enough to survive any given circumstance such as an economic recession, a tight market competition, or even some internal company issues. With this, you will have a consistent share of the company’s earnings and profits regardless of any given situation.
You don’t have to reinvest– Going for stocks that don’t pay out dividends will most likely force you to make an appreciation if you want to boost up your returns on investment. With dividend paying stocks, particularly the best stocks, your investment can stay just as it is for years and you will still get good returns on investment.
How to Pick and When to Buy High Yield Dividend Stocks
Buy What You Know
Why is a particular stock yielding a dividend significantly higher than other stocks? There can be a number of reasons. A high dividend is often an indication of high risk. Whether the risk is real or perceived is a question that each investor must determine. Another factor may be the type of stock. If it is a Business Development Company, a Master Limited Partnership, or a Real Estate Investment Trust the high dividend is at least partially a result of the government requirement that the vast majority of the income is passed through to the stockholder/unit holder in order to maintain a corporate tax free status.
A high dividend may be a result of the price of the stock having dropped significantly due to an overall downturn in the market, a downturn in that specific sector, or bad news in that specific equity or in an equity with similar characteristics. Obviously when the price drops and the dividend stays the same the yield goes up. Again this may or may not reflect the actual valuation of the particular stock under consideration. What all of the above boils down to is know the stock that you are evaluating… Know the business it is in, know where it stands versus its competition, and know how it is performing currently versus previous quarters/years. If you don’t know what a company does, or don’t understand what it does you should eliminate it from your screening universe.
Where a stock’s price is in its range is a very significant factor. Every stock moves up and down regardless of whether the market is in an upward or downward trend. Some of these moves are market driven, and some are driven by very specific actions. High yield stocks tend to fluctuate greatly prior and subsequent to the ex-dividend date. The dividend capture crowd wants to get in on the dividend. Those interested in capital gains want to buy before the pre ex-dividend rise, and sell before the ex-dividend drop. Many investors simply want to buy prior to the dividend, while others like to buy after the stock drops following the ex-dividend date. Price can also be greatly impacted when a company sells additional stock to generate funds.
Since BDCs, MLPs, and REITs have to pass through most of their profits they frequently sell additional stock to fund new growth. Very often this is perceived as a dilution and many stock holders sell right after this type of announcement. The key here is to determine whether or not it is in fact a dilution or whether the new income from the growth funded by the sale of new stock will more than overcome the increase in shares outstanding. Often the best way to make this determination is to see what has happened historically as well as looking at what the company says they plan to do with the money received from the sale of stock. In short, being aware of an individual stock’s typical price cycle and what impacts it is important in terms of timing a buy.
Look at price earnings ratios to see where a particular equity fits among its peers. If the PE is very high compared to other companies like themselves it raises a red flag. Likewise if it is too low compared to similar outfits the question is, why? Obviously a low PE caused by an irrationally low price is the type of opportunity to look for. Metrics such as price to book value, price to sales, price to cash flow, should be looked at within the historical framework of the particular stock in question as well as the industry that it is in.
Questions that need to be asked: Is the dividend safe? Is the dividend fully supported by earnings or distributable cash flow? What percent of earnings are paid out in dividends? In manufacturing companies it is important to know the company’s debt to equity ratio. It is generally a given that it is better to have more equity than debt yielding a debt to equity ratio of less than 1. Similarly it is generally favorable to have more current assets than current liabilities, and a current ratio of 2 or more is generally a good guideline. With MLPs, REITs and BDCs, these ratios do not give as clear a picture and things such as distributable cash flow, hedging, leverage, yield curve, and interest rate trend, are as important if not more important to understand. Again, it really comes down to understanding the company under consideration.
In evaluating high yield equities, size of a company is less important than its position among its peers, its historical performance and projected future results. It is obvious, however that large well established companies that have many years of historically growing dividends are most likely safer than smaller, newer companies. However, the recent crisis on Wall Street and the fall of many giants proves that what may appear to be obvious may not be so, and what historically has been safe may not be in the future.
Most equities are evaluated by at least one analyst and many are evaluated by four, five or more. Opinions are based on fundamentals, technical analysis, or a combination of both. There are also a number of on-line services that provide computerized analysis such as MSN Money (free) or Value Line (fee based) that plug a stock’s metrics into a formula which produces an “opinion”. Analyst ratings are interesting as often one analyst will place a buy rating on a stock while another places a sell rating on the same stock based on the same information. While looking at analysts’ opinions provides a helpful background check and is a source of thought provoking information, they are not a substitute for your own due diligence and personal evaluation.
No one knows what your own personal criteria for buying, selling or holding a stock are better than you. No one knows your tolerance for risk better than you. No one knows how much money you have to allocate toward a particular sector or equity more than you. So while it is informative to look at analysts’ reports, remember that they are only opinions and if you do your homework your opinion can be as good as or better than theirs! Remember, no one cares more about your money than you do!