The financial media can sometimes be a bit lost. Of course, I understand the irony of writing these words.
It’s not uncommon to see headlines tweaked to spark interest and enjoyment. It’s hard to stand out in our noisy internet. Many publications also make up the majority turnover from advertising, this unfortunately means that clicks can sometimes take precedence over providing useful or actionable information.
For example, a trendy headline topic attracts readers with the promise of sky-high money dividend income. You might be surprised at the number of stocks, exchange-traded funds (ETFs) and real estate mutual funds (REITs) provides a double-digit dividend yield on an annual basis. That sounds appealing at first, especially in our new world of high quality and stickiness inflationary.
However, high dividend yield often a sign of risk and underperformance, not opportunity. This is why individual investors should think twice before prioritizing sky-high dividend yields as the primary metric for evaluating an investment.
Total profit is worth more than dividend yield
What is it like to own a stock with a 20% dividend yield if the stock falls 50% over a long period of time? This highlights the importance of prioritizing total returns over dividend yields. The total return of an investment including stock or unit performance including dividends. Unusually high dividend yields are often a sign of risk and are often accompanied by poor overall returns over meaningful periods of time.
Reviewing Office REITs Income Trust Properties (OPI) and Government Properties Easterly (DEA) , boasting annual yields of 14.9% and 6.7%, respectively. Both earn an annual dividend yield of 1.8% of S&P 500 and easily duplicate the highest yielding savings accounts.
Gross profit tells a different story.
- The boring old S&P 500 index has delivered 3-year, 5-year, and 10-year total returns of 29%, 56% and 210%.
- The Office Properties Income Trust has yielded total returns over 3 years, 5 years and 10 years of -37%, -69% and -60%.
- Easterly Government Properties has yielded total returns over 3 years, 5 years and 10 years of -16%, -1% and 48%.
The same is true for recently crowned dividend leaders like Big Lots (BIG) . The stock currently has a 7% annual dividend yield, but that’s mainly because the stock has fallen 67% in 2022. If the share price falls and the dividend payout stays the same, the dividend yield will get a raise. It is usually not a favorable development.
Big Lots’ stock has yielded total returns over 3 years, 5 years and 10 years of -12%, -63% and -30%.
Exceptions do exist. Coal Mining Alliance Resource Partner LP (ARLP) has been doing very well lately due to high energy prices. The limited partnership’s units boast an annual dividend yield of 8.5% in 2012, more than 25% in 2016 and nearly 60% in the depths of the coronavirus pandemic in 2020. currently gaining more than 7%.
Despite those incredible dividend yields, the total returns are mixed in meaningful time periods. Alliance Resource Partners units have delivered 3-year, 5-year, and 10-year total returns of 100% (easily beating the S&P 500), 67% (hardly beating the S&P 500), and 63 % (easily lost to the S&P 500).
If investors look at the stock chart, Alliance Resource Partners’ recent performance against the S&P 500 starts only in April 2022 (for 3-year comparisons) and July 2022 (for 3-year comparisons). compared with 5 years). Rising coal prices led to a 50% increase in coal-related revenue in the first half of this year compared to 2021. This is unlikely to be sustainable.
Other limited partnerships focused on energy have also surged recently and outperformed the S&P 500 index by 2022. To continue this trend, investors will need global energy prices. continues to increase, coal consumption to stem a multi-year decline and the global economy need to avoid a Depression. It’s an unlikely trio.
Dig deeper into dividend yield
Investment is first and foremost profit. It’s easy to see double-digit annual dividend yields and stop there, but individual investors must focus on total returns over meaningful periods of time.
In rare cases, it can be profitable to bet on specific dividend leaders. For example, if you invested in Alliance Resource Partners in mid-2020, you’ve made a total return of almost 800% since then. But most of those profits are made through a perfect combination of fiscal and geopolitical events that are almost unpredictable and unlikely to last long.
For most investors, the S&P 500’s low dividend yield is usually a better choice for long-term investing. You may not make much from dividend payments, but you won’t be able to make up for that regular loss of income with steady and reliable returns.
