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As an investor looking for high dividends, this parameter will help you in obtaining a substantial dividend income. Dividend yield is a financial ratio that shows the amount a company pays in dividends each year relative to its share price. Dividend yield formula is stated below.
Simply put, dividend yield is an easy way investors determine the stocks with high dividend-paying abilities.
For example, Investor A may have stock B<C<D in Company AXC. By calculating the yield, the investor is able to determine which stock will give him more dividends in return.
Let us go in-depth into dividend yield and its formula.
Dividend Yield Formula
Dividend yield is a percentage calculated by dividing the dividends a company pays as a share price in a particular year by the value of one share of stock
In other words, the formula shows the percentage of the company’s market price of a share that is paid to shareholders in the form of a dividend.
It is the ratio of an organization’s annual dividend compared to its share price.
Dividend Yield = Annual Dividend/Share price
Dividend yield = Dividend per share/ Market value
Dividend per share = Total annual dividend / Total number of shares.
Market value per share = Current share price of the company.
Also, it is the relation between a stock’s annual dividend payout and its current stock price.
Dividend Yield Formula Interpretation
The dividend yield formula is used to ascertain the amount an investor gets from owning stock in a company. Therefore, it shows the amount derived from every stock.
The yield can be either high or low.
This is determined by the company or the industry. This is because some companies pay out little or no dividend, rather they retain most of their earnings for reinvestments.
One very important point to note is that the yield point or ratio doesn’t depict the growth or not of a company. It just shows investors the security that brings back more dividends.
Dividend Yield Example
If stock XYZ has an annual dividend of $1.00 and a share price of $50, its yield will be;
$1.00 / $50 = 0.02, which is 2% yield.
If this share price rises to $60, but the dividend paid out was not increased, the yield will fall to 1.66%.
Company A’s stock is trading at $20 and it pays annual dividends of $1 per share to its shareholders. Also, Company B’s stock is trading at $40 and also pays an annual dividend of $1 per share.
Company A’s yield is $1/$20 = 5%.
While Company B’s yield is $1/$40 = 2.5%.
The dividend used in calculating this is the annual yield not quarterly or monthly dividend.
Key Points to Note
From our source, take note of these:
- The dividend yield is the amount gotten for only the yearly stock whose dividend was said for by the company.
- It is the amount of money a company pays to its investors for owning stock in their company.
- Research shows that companies in the utility and consumer industries pay higher yields. In addition, mature companies pay dividends more frequently.
- Investors look at the stock price but not the high dividend yield. Earlier in the post, we established that high yield doesn’t mean the company is growing or making profits.
DIVIDEND YIELD VS DIVIDEND PAYOUT RATIO
Dividend yield shows how much percentage an investor would earn if he invests in a stock at the current market price. Whereas, the dividend payout ratio will only show how much of the earnings are distributed to shareholders as a dividend.
So, if you want to assess a company on having a better returns, then dividend yield will be the right choice.
Tips for Investors
Any investor that wants to get a portfolio that pays a high dividend income at the end of the year will have to scrutinize the company’s dividend payment history.
To know a stock that will have a high dividend, Dividend.com says to look out for the following things:
The stock price
When a stock price reduces and the dividend paid remains the same, the dividend yield will increase.
For example, if stock XYZ is $50 and pays a $1.00 annual dividend, the yield will be 2%. If the stock’s share price falls to $20 and the company still pays a dividend of $1.00, its new yield will be 5%. While many investors will be attracted by this 5% yield, the company is actually not doing well.
So, investors should find out what is making the yield high.
Real Estate and Partnerships/Utility companies are amongst those that pay high dividends. This is because they are required to distribute at least 90% of their earnings through dividends.
Investors tend to recline towards them because their dividend is higher than stocks.
They do not pay regular income tax on a corporate level, instead, the tax burden is passed down to the investor. Investors should take note of this as well.
DISADVANTAGES OF USING DIVIDEND YIELD AS AN INVESTMENT METRIC
1. Stock Market Fluctuations: Because the stock market is not stable, this is not a good parameter to calculate stock earning.
2. Insufficient as an Overall Return Metric: There are some profitable companies in the market that do not pay dividends as they have profitable investment opportunities so they choose to reinvest their earnings.
3. Dividend: Some companies pay more dividends because they don’t have a profitable reinvestment opportunity. So, only higher DY does not mean that the company is doing well. You need to use other metrics and criteria for your analysis along with this before making a conclusion.
In conclusion, we discussed an important feature for potential investors that will aid them in making wise investments. Do ensure to read the post and ask for clarity where you don’t understand.