While making any investment, we need to look at the returns we will be getting out of the investment and compare it to the risk we will be bearing.
A dividend is a form of return on our investment. Find out everything you should know before investing in dividend-paying stocks and market analysis for the first half of 2021.
What Is A Stock Dividend:
Before we can understand the concept of a stock dividend, we need to understand the sources of raising capital for a company.
Any company can raise capital through Debt, Equity, Preferred Stocks, Loans, and so on. For each kind of capital, the company has to pay the capital provider a return for bearing the risk of investing in the company.
This return is commensurate to the amount of risk borne by the capital provider. The below graphic shows the capital sources with their respective return in the parenthesis.
Debt, Loan, and Preferred Stock have a fixed rate of return, therefore the risk is lower. The capital provider is assured of the amount of return he will receive. There is a slight difference between these.
While Debt and Loan require mandatory returns even when the company is incurring losses, Preferred stock receives the return only when the company makes profits.
An even riskier investment is in Equity. Neither does it have a fixed rate of return nor is the company bound to pay the dividend when it is making a profit or incurring a loss.
However, the equity holders have a share in the profits of the company. Whenever the company wants to distribute this profit, it either provides it in the form of Dividends or the form of share buy-back.
In either of the two ways, the equity holders receive some amount of profit on a pro-rata basis of their investment.
Which Stocks Pay Dividends
Two questions arise from our understanding of dividends. First is why invest in stocks that don’t pay a fixed dividend.
The answer is that after paying all the liabilities and creditors, whatever remains belongs to the equity holders so the amount of dividends can be very high if the profits are very high as compared to the debt and liabilities.
The second is which stocks pay dividends. For this, the stocks are generally categorized into two types. Growth stock and Value stocks. A company has two uses for its profits. Either it can plow it back and invest in growth opportunities or it can distribute it as dividends.
Those companies which have several growth opportunities, pay lower dividends, and fall under the category of Growth stocks.
These pay their investors in the form of capital appreciation as the price of the shares increases multifold when the company’s profits rise. Generally, Technology stocks fall into this category.
Those companies which have lower growth opportunity or have reached a mature stage in their lifecycle, they pay regular and high dividends.
The capital appreciation is low for these stocks but dividends are high. Generally, Utility stocks fall in this category.
The world’s most successful investor, Mr. Warren Buffet is a champion of Value Investing.
How Often Do Stocks Pay Dividends
Generally, the stocks have a fixed dividend frequency. It can be monthly, quarterly, semi-annually, annually, or any other such frequency as mentioned on the stock certificate.
However, if the company pays a dividend on a date that is not an established Dividend date, then such a dividend is known as a Special or an Interim Dividend.
High Dividend Stocks
As explained above, Value stocks pay high dividends. Stocks such as Amazon, pay no dividend at all. Below is a table of some of the top dividend-paying stock in the US in the first half of 2020:
|Home Depot||HD||2.4%||Retail Store||Quarterly|
|Fastenal||FAST||2.3%||Industrial Supplies||Quarterly & Annual|
|Kroger||KR||2.1%||Grocery Store (Retail)||Quarterly|
|General Mills||GIS||3.2%||Grocery Store (Retail)||Quarterly|
|AGNC Investment Corp||AGNC||10.5%||REIT||Monthly|
|Gladstone Capital Corp||GLAD||10.53%||Financials – Debt Securities||Monthly|
|Horizon Technology Finance Corp.||HRZN||9.77%||Medical Technology||Monthly|
Note: Monthly yields are higher because they are calculated for a short period while quarterly or annual yields are calculated over a long period and are therefore smaller.
Converting the monthly yields to the annualized number would lead to a better comparison.
Let’s understand a few points related to why these are the high dividend-paying stocks in 2020:
- When restaurants are closed, people are forced to buy more groceries and cook at home. This has led to an increase in the sales of Grocery stores. With increased sales and profits, these stocks are in a position to pay higher dividends
- Profits of healthcare stocks all over the world are rising because of the research going on around the COVID-19 vaccine, medical technology requirements such as testing kits, PPEs, ventilators, and so on
Global Recessionary Cues
- The Instability in global trade and protectionism all around the world has negatively impacted trade.
- GDPs all across the world are going down. Economic activities are reducing. This is a clear indication of why more investments are coming in the debt securities.
- BlackRock, Vanguard, Fidelity, Gladstone, all are Debt majors and with more investment coming their way, they can pay out higher dividends too.
- People want fixed and safe returns, instead of risking in growth equity which performs well in market booms and not recession
- Even Gold is rising as it is a safe haven
- REITs that are growing are not those which own physical assets but those which are invested in mortgage-backed pass-through securities backed by US Government or agencies such as Fannie Mae and Freddie Mac. These are riskier securities and therefore high-yielding
How To Invest In Dividend Stocks
- Goal-oriented investing: Investing in dividend stock should be goal-oriented. First of all those investors who have high risk-taking ability, prefer low dividends and high growth. While those who want stable returns invest in high dividend-paying stocks or value stock.
- Investment Horizon: Depending upon the state of the economy your asset allocation and security selection will vary. You need to have a view of the market for a given investment horizon let’s say the next five years.
- If you expect that the economy will recover in the next five years, then invest in growth stocks now when they are cheap and profit from capital appreciation. If you expect that the economy will further go into a recession then safeguard by investing in value stocks
- Further, which stocks will do well also forms the basis of the investment. In cases of political instability, entertainment stocks do well as people like to divert themselves from depressing situations. Disney would be a good stock to invest in such times
- Tax consequences: Are stock dividends taxable? This is a big question to find answers to while investing in dividend-paying stocks.
- Stock dividends on shares which are a part of a retirement account are not taxable
- Stock dividends on shares that are a part of nonretirement brokerage accounts are taxable. They can be taxed at 15% in the hands of the investor even if they are paid from the after-tax profit of the company. The tax rate depends on the tax bracket of the investor.
It is best to take professional help when it comes to the tax analysis or check the IRS website.
Below is the table of some popular company stocks along with their dividend information:
|Ford Motor Company Common Stock||F||NA||Automobiles||Quarterly|
|Verizon Communications Inc Common Stock||VZ||4.14%||Telecom||Quarterly|
|Exxon Mobil Corporation Common Stock||XOM||10.14%||Telecom||Quarterly|
|BP p.l.c. Common Stock||BP||7.1%||Oil & Gas||Quarterly|
|Boeing Company (The) Common Stock||BA||NA||Aviation||Quarterly|
|Walmart Inc. Common Stock||WMT||1.54%||Retail||Quarterly|
|Walt Disney Company (The) Common Stock||DIS||NA||Entertainment||Semi-Annually|
|Amazon.com, Inc. Common Stock||AMZN||NA||Online Retail||NA|
- GE Yield is very low and its actual dividend is also low
- Ford, Disney & Boeing don’t follow a fixed dividend pattern and therefore the yield is not available
- The Telecom sector is booming due to work from home guidelines and online education in the Pandemic. Therefore, AT&T, Exxon, and Verison have higher dividend yields and a higher dividend of more than $2 per stock
- As Oil and gas sector has seen a very high fall in prices the actual dividend is less than $2 for BP which used to be higher than $2 in 2019
- The yield is high because this is a value stock and the per-share price is very low at the moment
- Walmart’s price is very high at the moment because of the high profits of the retail industry in the Pandemic. Therefore the yield is low but the actual dividend is greater than $2. Have a look at the trend of the historical quotes and there is a constant increase in the per-share price.
- Amazon doesn’t pay a dividend. It is a growth stock and is plowing back all the profits
Investment in dividend-paying stock is not a short-term scenario. It requires thorough market analysis and establishing a view of the market for the upcoming medium-term investment horizon.
Both Fundamental and Technical analysis will help in selecting the right stocks. It’s best to pick those stocks with a stable dividend payout policy if you rely on the dividend stream of income for maintaining your lifestyle.