All About Dividends:
One of best way to invest in dividend stocks is the
buy-and-hold strategy. That means you buy a dividend paying stock and hold it
until you find another company paying higher-yield dividend for enough period
of time. Basically you will have fixed income as dividends in addition to stock
price gain or loss.
What you should consider to own a dividend stock
forever, you want three things from that stock:
1. High yield dividends.
2. Continued payment history.
3. Payout ratio follows less than 70% on Net-income.
Dividend payments: when a company declares dividend
usually quoted either as a Dollar/Taka amount or as a percentage. The
Dollar/Taka amount is how much you will get paid per year on each share of
stock you own. The percentage is calculated as the dollar/taka amount on each
stock own divided by the current per stock price times 100 that is called
dividend yield.
Yield explained: by looking at the percentage you
can easily compare better investments strategy and grasp which stock will pay
you most on your amount of investment. You will learn why dividends yield is
crucial factor of choosing dividend paying stocks.
For example: if you purchase 100 shares of stock at
$10 per share, you will have invested a total of $1,000 (100 shares X $10 per
share = $1,000 invested)
How much you will get on every share of stock you
own?
Let’s say a company is paying 8% dividend yield, so
there will be $80 earnings on your investment of $1,000 (1,000 invested X 8% =
$80) $80 dividends per year.
This means that this stock pays you $.80 for every
shares of stock you own (earnings $80/100 shares). Now, if another stock also
paying $.80 per share, but the stock price of that stock is $20 per share. In your
$1,000 investment you will have 50 shares a price of $20 per share. On your
$1000 investment, on this second company you will earn ($.80 X 50) $40 every
year.
Let’s calculate the yield of second stock, it pays
$.80 per share, and its share price is $20. So, the yield is (.80X100/20) 4%.
Your plan is to get highest return on a fixed of $1,000 investment, keeping
this strategy well-planned you can see that you get 100 shares on a first stock
and 50 shares on a second stock, but both pay you exactly $.80 per share you
own. In this scenario, you can comprehend which stock will pay more earnings
with the $1,000 investments because of highest yield with same amount of
payment per share.
Only your yield matters: note that the only thing
matter is the yield for the price that you bought at. Even if the price of the
stock goes up or down after you have bought it. You will earn same amount of
money because you still own the same number of shares. So, the key is to
compare their yields.
Trend of continued payment: your only concern is to
minimize the risk on every penny you investment. Then you research high-yield
paying dividend stocks those companies have record of paying dividends for at
least 4/5 years. History of dividends payment in the past for years most likely
will continue to pay in coming years. Owning a share of stock is the same as
owning a piece of a company. The dividends are paid out of what a company earns
in Net-income and have savings. If a company does not have growth in net-income
or enough cash savings in balance-sheet how long will a company continue to pay
dividends? So, it is important that a company is able to pay dividends based on
their profits over a year, and you want to make sure their payout is less than
they earn in income. One way to determine this is by checking the stock’s
payout ratio.
Payout Ratios explained: the payout ratio is the
amount a company pays in dividends divided the company’s income. Let’s say a
company pays out $1,000 worth of dividends and earns $10,000 income end of the
year, then it’s payout ratio is
10% ($1,000/$10,000 income times 100).
Now, if a company’s payout ratio greater than 100%
means that the company is paying out more in dividends than they make in
income. Think carefully about how long a company could continue to stay in
business if they spend more money than they make. Obvious answer is not very
long. And definitely not forever, which is how long you expect to own the
stock.
Sustainable Payout Ratio: a sustainable payout ratio
is generally considered less than 75%. That means a company pays dividends to
investors out of 75% its income and remaining 25% of income is going to
company’s reinvestment plan. A company needs enough cash to create new
products, advertise to new customers, new business plant, and generally just
keep continuous business growth. If no reinvestment is made then the company’s
income could shrink over time.
What would happen when company’s income shrinks? How
much would it hurt keeping business same phase of expansion? It shows that if
company’s income slows down that will lead the payout ratio for the stock to go
up. Let’s say that the above company’s income drops to $5,000 from $10,000 over
year and its payout payment is same $1,000 as before.
$1,000 dividends / $5,000 income = 20%.
So it is very important for a company to maintain
growth in business expansion and its net-income by reinvesting in itself.
There should be a cap to maintain reasonable payout ratio
which is standard for most companies. A payout ratio of 75% or less also
provides a cushion for the company in case of hard times arrives. As economy
slows down, most companies’ income also go down. If a company is paying 100% of
the previous income as dividends, then they will have to lower the total
dividends payment to match the current income.
