In fundamental analyses, investors look for several factors when investing in a stock. If you are a value investor and are focusing on dividend income, one important metric you should be aware of is dividend yield. Let’s look at what is dividend yield in stocks.
Dividend Yield for Stocks
This ratio represents the dividend amount a company pays annually compared to its share price.
Now, we will look at the formula for dividend yield.
Dividend Yield = (Annual dividend/ Stock price) x 100. It is expressed in percentage terms.
E.g. If a company’s stock price Rs 75 and it declares a dividend of Rs 3.50, you get a yield of 4.66 percent.
So the dividend yield of a company can change both when the stock prices vary and when the dividend paid increases or decreases.
Now that we have understood what dividend yield in the share market is let us look at a few important things to keep in mind regarding dividend yield.
- The dividend yield is a measure of how much money a company pays to its shareholders as dividend over a year
- The dividend yield is also the one-year return of a stock when it comes to its dividend payment. Though the stock price may increase, the company may not declare a dividend.
Now we will look at what is a dividend yield ratio in detail. If we assume that the stock dividend remains the same, in that case, the yield will go up when the stock price falls, and it will go down when the stock price rises. Since dividends do not change frequently, changes in stock prices are mostly the cause of dividend yield rising or falling.
Value investors want to know what is yield in the stock market when it comes to stocks they own. It is an essential matrix for value investors who want to make a regular passive income from their investments. Such investors look for secure cash flow from their investments. They will look at the dividend yield ratio to gauge how productive the investment is.
When a company is paying dividends, it’s a sign that it’s stable and making profits. This is because only companies that make a profit are likely to pay dividends. Investors often look at such companies as ‘safer’ investments.
Companies that are older and well established may pay out a higher dividend. Newer companies, on the other hand, will not pay high dividends. Older companies may also have a consistent dividend-paying history, helping investors decide on the stock.
A Dividend yield is used to measure a company’s performance:
Investors compare dividend yields of different companies to decide between buying a stock. Investors also look at forward dividend ratios and trailing dividend ratios to understand a company’s dividend yield.
Investors often ask what is a good dividend yield. One needs to understand that dividend yield varies across sectors and industries. Some industries like IT or electronics have minimal dividend yields, while companies in the PSU or public sectors may have stable dividend yields.
Very high dividend yields are not always a good thing:
A higher dividend yield does not always make a company an attractive investment opportunity. This is because the dividend yield will go up as stock prices decline. In cases when the price of a stock is falling rapidly, the dividend yield may look abnormally high. Such a scenario is known as a ‘value trap’. In such a situation, the stock of the company may not be a good buy.
To sum up, dividend yields are one of the essential factors that value investors consider when buying a stock. However, they should also look at other ratios before making a decision.
