Dividend investing is a tried-and-true method of wealth accumulation that offers inflation protection in a way that bonds do not. But finding top-notch dividend-paying companies can be a challenge.
Dividend investors need to do their homework to identify the companies that have healthy enough profits to sustain dividend payments year after year.
Key Takeaways
- Dividend investing is a reliable method of wealth accumulation that offers the inflation protection bonds don't have.
- Dividend investors should seek out companies with long-term profitability and earnings growth expectations between 5% and 15%.
- Companies should boast the cash flow generation necessary to support their dividend-payment programs.
- Investors should avoid companies with debt-to-equity ratios higher than 2.00.
- Beyond studying a company's fundamentals, investors should follow broader sector trends to make sure their chosen companies are positioned to thrive in the future.
Ex-Dividend Date Defined
The ex-dividend date is the first day on which new buyers of a stock will not be eligible to receive a dividend. The dividend for that period will be paid to the previous owner.
Strong Cash, Low Earnings Expectations
When vetting dividend-paying companies, long-term profitability is a key consideration. Any company can occasionally experience a profitable quarter. Only those that have demonstrated consistent annual growth should make the cut.
Specifically, investors should seek companies whose long-term earnings growth expectations range between 5% and 15%. Higher numbers are not necessarily good. Companies whose growth exceeds 15% tend to experience occasional earnings disappointments, which almost always nick the stock price.
Next, investors should strive to find companies with healthy cash flow generation, which is needed to pay those dividends.
Finally, a minimal five-year track record of strong dividend payouts signals continued dividend growth.
Of course, it's essential for investors to purchase their shares prior to the ex-dividend date.
Steer Away from Debt
Investors should avoid dividend-paying companies that are saddled with excessive debt. Companies with debt are forced to channel their funds into paying it off rather than committing that capital to their dividend payment programs.
For this reason, investors should examine a company's debt-to-equity ratio. If that figure is north of 2.00, move on.
Check Sector Trends
While scrutinizing a company's numbers is key, it's no less essential to look at the broader sector, to cultivate a more holistic projection of future performance.
Case in point: an oil company may be thriving this year, but a plunge in oil prices can cause its stock price to dive, meaning less cash is available for dividend payouts.
Be mindful of the big trends that drive economic sectors. For example, the aging baby boomer population inevitably will boost demand for healthcare services over the next several decades. This paves the way for steady dividend increases moving forward.
Or consider the soft drink industry, which has historically been a safe bet. Consumers are becoming increasingly health-conscious. Most major beverage companies are pivoting to healthier drinks. But this shift will take time and money that might be diverted from dividend payments.
What Is a Dividend?
A dividend is a shareholder's share of the issuing company's profit from the latest quarter or year. The company's board of directors votes on whether to issue a dividend and how much to pay, based on the company's profitability and the amount of cash it has generated.
Not all companies pay dividends. Those that do are mostly healthy, mature companies.
Dividends are paid on a per-share basis. For example, Coca-Cola, a famously steady dividend payer, paid a dividend of 0.46 cents per share in September 2023. The company had an annual dividend yield of 3.15% per share in 2023.
Are Dividend Payments Taxed?
Yes. There are two distinct tax rates for dividends.
"Qualified" dividends are treated as investment income, and are taxed at the capital gains rate of 0%, 15%, or 20%, depending on your tax bracket. Most U.S. corporate dividends fall into this category.
"Non-qualified" dividends are taxed at the income tax rate you pay, which may be 10% to 24% depending on your tax bracket. Some foreign company dividends fall into this category.
Taxpayers who receive dividends must report it on IRS Form 1099-DIV, Dividends and Distributions. The total is then transferred to line 3a of Form 1040.
Is There a Downside to Dividends?
It's hard to find a downside to a bonus, and that's what a dividend is. Dividends are paid only by profitable and stable companies. They are not generally paid by the fastest-growing young companies whose stock prices are soaring. Dividends are a reward to shareholders for holding onto a stock long-term rather than flipping it for a quick profit.
The Bottom Line
If you plan to invest in dividend stocks, look for companies that boast long-term expected earnings growth between 5% and 15%, strong cash flows, low debt-to-equity ratios, and competitive strength moving forward.
FAQs
How to pick dividend stocks
- Don't chase high dividend yields. "There's a reason—and not always a good one—that a security is offering payouts that are well above its peers or the broader market," Steve says. ...
- Assess the payout ratio. ...
- Check the balance sheet. ...
- Look at dividend growth. ...
- Understand sector risk. ...
- Consider a fund.
Investors who are focused on dividend-paying stocks should evaluate the quality of the dividends by analyzing the dividend payout ratio, dividend coverage ratio, free cash flow to equity (FCFE), and net debt to earnings before interest taxes depreciation and amortization (EBITDA) ratio.
What are the best dividend stocks to buy right now? ›
10 Best Dividend Stocks to Buy
- Verizon Communications VZ.
- Johnson & Johnson JNJ.
- Philip Morris International PM.
- Altria Group MO.
- Comcast CMCSA.
- Medtronic MDT.
- Pioneer Natural Resources PXD.
- Duke Energy DUK.
“Dividend capture strategy” returns are the trading technique of buying a stock just before the dividend is paid, holding it just long enough to collect the dividend, then selling it. If you can sell it for as much as you paid, you have “captured” the dividend at no cost, other than the transaction costs.
What are the three dividend stocks to buy and hold forever? ›
Key Points
- Caterpillar masterfully navigates downturns to maintain dividend growth.
- Enbridge is a steady pillar of North America's energy infrastructure.
- Lockheed Martin's deep government ties are a money train for shareholders.
Top tips for investing in dividend stocks
- Find sustainable dividends. Finding a sustainable dividend is one of the surest ways to avoid loss, which is the No. ...
- Reinvest those dividends. ...
- Avoid the highest yields. ...
- Look for dividend growth. ...
- Buy and hold for the long term.
What is Dividend Investing? Dividend investing is a strategy that investors use to generate a steady stream of income from their investments. Dividend investing primarily involves buying stocks in companies that pay regular dividends, which are essentially payments made to shareholders out of the company's profits.
How do you decide dividends? ›
The dividend payout amount is typically determined through forecasting long-term earnings and calculating a percentage of earnings to be paid out. Under the stable policy, companies may create a target payout ratio, which is a percentage of earnings that is to be paid to shareholders in the long-term.
How to read dividend stocks? ›
Let's say a public company's share price is $50, and it pays annual dividends equal to $1.50 per share. To determine the dividend yield, divide the dividend amount per share by the price per share: $1.50 / $50 = 0.03. Convert the decimal to a percentage, and you get a dividend yield of 3%.
What is the best dividend stock of all time? ›
Some of the best dividend stocks include Johnson & Johnson (NYSE:JNJ), The Procter & Gamble Company (NYSE:PG), and AbbVie Inc (NYSE:ABBV) with impressive track records of dividend growth and strong balance sheets. In this article, we will further take a look at some of the best dividend stocks of all time.
There is no hard and fast rule for how many dividend stocks to start a portfolio, but a good starting point is to aim for a minimum of 10. This will give you a good mix of different companies and sectors and help to diversify your risk.
What are the 5 highest dividend paying stocks? ›
20 high-dividend stocks
| Company | Dividend Yield |
|---|
| Franklin BSP Realty Trust Inc. (FBRT) | 11.06% |
| Eagle Bancorp Inc (MD) (EGBN) | 9.68% |
| Civitas Resources Inc (CIVI) | 9.45% |
| Altria Group Inc. (MO) | 9.18% |
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Rule 3 of Dividend Rules prescribes the conditions to be complied with for declaring dividend out of reserves. A pertinent question here is – whether a company can declare dividend out of 100% of the amount that has been transferred to General Reserve.
What is the dividend king strategy? ›
Some companies aren't just dividend aristocrats—they're also dividend kings. These companies have leveled up their dividend game by increasing their payouts each year for 50 years. Some definitions let them get away with just 40 years, but to be true kings, many investors like to see 50 consecutive years of increases.
How to make $1,000 a month through dividend investing? ›
To generate $1,000 per month in dividends, you'll need to build a portfolio of stocks that will produce at least $12,000 in dividends on an annual basis. Using an average dividend yield of 3% per year, you'll need a portfolio of $400,000 to generate that net income ($400,000 X 3% = $12,000).
What is considered a good stock dividend? ›
Yields from 2% to 6% are generally considered to be a good dividend yield, but there are plenty of factors to consider when deciding if a stock's yield makes it a good investment. Your own investment goals should also play a big role in deciding what a good dividend yield is for you.
How do I decide what dividend to pay? ›
The dividend payout amount is typically determined through forecasting long-term earnings and calculating a percentage of earnings to be paid out. Under the stable policy, companies may create a target payout ratio, which is a percentage of earnings that is to be paid to shareholders in the long-term.
How to make $500 a month in dividend stocks? ›
Dividend-paying Stocks
Shares of public companies that split profits with shareholders by paying cash dividends yield between 2% and 6% a year. With that in mind, putting $250,000 into low-yielding dividend stocks or $83,333 into high-yielding shares will get your $500 a month.
