What Is A Dividend?
If you’re interested in becoming a dividend investor the first thing one must learn is what a dividend is. The definition of a dividend (from Oxford dictionary) is “a sum of money paid regularly (typically quarterly) by a company to its shareholders out of its profits (or reserves). Yes you read that correctly just by owning shares of particular companies you can earn quarterly dividends without having to do a thing! As great as that is one must do a great amount of fundamental analysis before investing any money as not all dividend paying stocks are created equal.
Why Do Companies Pay Dividends
So I assume at this point you may be wondering why a company would pay out these dividends rather than reinvest profits or keep the cash on hand. There is actually several different reasons a company may decide to pay a dividend lets take a look –
• Many mature companies decide to pay a dividend due to the fact the business is already well established and it doesn’t need to reinvest as much back into the business so they decide to return profits to shareholders
• Dividends attract investors seeking passive income which therefore could increase the demand for a company’s stock
• YIELD TRAP(BE VIGILANT!!!) : This is where dividend investors must be cautious there are many stocks out there paying dividends that are simply unsustainable sometimes companies with poor financials will pay outlandishly high dividends to attract investors but like the old saying goes if it seems to good to be true it probably is!
How To Find Healthy Dividend Stocks
In order to avoid those yield traps investors must do their homework. Before making any investments everyone should have a good understanding of how to evaluate company’s financials. Balance sheets and forum 10k’s are a great place to begin determining whether an investment is worthwhile. Let’s take a look at a few metrics I like to look at –
• Payout Ratio : The payout ratio will tell you how much of a company’s earnings are paid out in dividends. This is a wonderful starting point to determine whether you are investing in a stable dividend paying company or a total yield trap. I like to target companies with lower payout ratios as those companies tend to have more room to grow the dividend compared to a company with a higher ratio. One thing to make note of though is payout ratios can run a bit higher in certain sectors of the market such as regulated utilities. So for example if you were looking to invest in a utility company make sure to compare payout ratios against other utilities rather than comparing against something in a totally different sector.
• Debt To Equity Ratio : Same rule applies here make sure you’re comparing apples to apples. To calculate this ratio all you have to do is divide total liabilities by shareholders equity. It’s very important to get a clear understanding of a company’s debt load because if a company has a unsustainable amount of debt it may struggle to consistently pay and increase their dividend.
• P/E Ratio : P/E ratio is short for price to earnings ratio. To calculate P/E divide the current price of the stock by earnings per share. For some people P/E is the end all be all for me its definitely something I consider, but in some instances I don’t mind paying a higher valuation for quality. Don’t be surprised when you see blue chip dividend paying companies demanding higher valuations as quality usually doesn’t come cheap in our current bull market and low interest rate environment. To each their own when it comes to this particular metric, but my personal style is to invest in a mix of value and premium dividend paying stocks diversification is key!
• Yield : Dividend yield is the percentage of a stocks price that is paid out in dividends. As previously stated be vigilant about potential yield traps in the market. I definitely own my fair share of high yielders but the ones in my portfolio have healthy payout ratios and balance sheets. Personally I like to own some low yield high growth stocks and some high yield slower growth ones as well.
• Payout History : Another thing I like to do when looking at a potential investment is to do a quick search for a company’s payout history. The longer the history of paying and increasing the dividend the more comfortable I feel. Once again this isn’t the end all be all as one should invest for the future and not the past, but I definitely do consider a company’s payout history as I like to invest into companies that are committed to paying dividends.
Tax Implications
One must consider the tax implications before investing for dividends. I’m not going to go to in depth on tax implications due to the fact that everyone’s tax situation will be different based on various factors, but I just wanted to mention there can be tax implications depending on your situation. I suggest researching about taxes before investing as this is definitely something you want to stay on top of to ensure optimal results.
How To Get Started
Now for the fun part your ready to put your money where your mouth is… I recommend starting slow and easing your way into things. I don’t recommend going crazy with a lot of individual stocks or flashy companies. I like to keep it simple and invest in businesses that are simple for me to understand and have long track records. A good starting point could be taking a look at the list of dividend aristocrats and dividend kings as they tend to be mature companies with lengthy track records of growing their dividends. Another option could be investing in a index fund or ETF until you get your feet wet and a bit more comfortable evaluating individual stocks. The choice is yours but just remember slow and steady wins the race, and everyone’s situation is different so you must do what is best for you and what you feel most comfortable with.
Research Tools and Resources You Can Use
As stated earlier it is of the upmost importance to do your own fundamental analysis before investing any of your hard earned cash. Let’s take a look at some resources you can use to research potential investments –
• Yahoo Finance : The starting point for me with any potential investment is almost always Yahoo Finance. This is a wonderful free resource that provides a wealth of free information. You can pull most basic metrics through Yahoo Finance and the platform works very well in my opinion.
• Your Brokerage Account : Not only is this your home base for your investments, you may not know but most brokerages offer a variety of research tools at no extra charge. I like to use some of the tools offered by my brokerage when screening potential investments.
• Books : When I first got started on my dividend journey I took it upon myself to read as many books as possible. There are tons of books out there about investing so definitely consider checking some out. I like to go to my local library for my books as they have a wide selection of investing and personal finance books.
• YouTube : Another place I learned a lot about investing is none other than YouTube. Definitely proceed with caution with this option as you want to develop your own strategy rather than mirroring someone else’s, but there is a lot of information on YouTube both good and bad. I like YouTube because it gives me an opportunity to hear likeminded individuals thoughts and ideas.
Conclusion
Thank you all so much for taking the time to check out my very first blog post. I hope you all found this guide to be helpful in some way. My goal is to provide ideas and discussion for like minded individuals. Best of luck to all my fellow dividend investors and newcomers out there. I’m very excited to be able to share my dividend journey with everyone!
Thanks for reading
Disclaimer – All information on this blog is solely for entertainment purposes. I am NOT a licensed professional of any kind. Any stock transactions or analysis published on this blog should NOT be considered investment recommendations. Please consult with a licensed financial/tax professional before investing any of your money or undergoing any financial/personal changes. Unless your investments are FDIC insured, they may decline in value. I will NOT be liable for any losses,damages,errors,or omissions. All information is presented as is with no warranties.
