Invest in Highest Dividend Stocks
By: Ned Piplovic,
To meet the income flow requirement of their investment portfolio strategy, investors generally seek to invest in the highest dividend stocks they can find.
However, like in most things, moderation might be a good policy to implement when dealing with highest dividend stocks. Whether the term highest refers to a high dollar amount or a high dividend yield, the metric can be deceiving in both instances.
Furthermore, investors must also consider whether the particular investment is considered among the highest dividend stocks over all or relative to some subset of all equities. Some sectors of the economy offer higher dividend payouts than others.
Therefore, income flow from a highest dividend stock in a low-yield segment might deliver a lower cash income flow than an equity with a mid-level yield in a high-dividend sector. To choose the most beneficial highest dividend stocks that will provide substantial income flows over extended time horizons, investors must understand basic measures of dividend performance, such as dividend yield and dividend payout ratio, as well as go beyond the basic metrics for a more complete analysis.
Highest Dividend Stocks – The Basics
Before delving deeper into the nuances of how to identify the best highest dividend stocks, everyone interested in dividend investing should know that investor opinions on the validity of dividend value vary greatly. In addition to being a source of cash income, some financial experts also favor dividend payouts as a good indicator of an equity’s ability to provide reliable long-term growth. Alternatively, other investors and financial experts deem dividend distributions irrelevant to the overall stock performance. This debate on the value and significance of dividend distributions is far from settled.
However, back-tested historical data indicate that equities with steady dividend distributions — especially companies with long records of rising dividend payouts — tend to outperform non-dividend stocks over extended time horizons. There is no way to determine with absolute certainty whether dividends are the cause or the byproduct of an equity’s strong financial performance over the long term. However, as long as dividend-paying equities continue delivering outsized capital gains and steady income distributions, investors should not be too concerned. Instead, investors should focus more on picking the best highest dividend stocks to build their wealth by assembling a well-balanced portfolio that includes value and growth equities, as well as other asset classes for portfolio protection, such as bonds, treasury bills, commodities, etc.
Are the Highest Dividend Stocks Best Investment Choices?
Like answers to many investment questions, the answer to the question above depends on the specific situation. However, before tackling that question, we must first understand what highest dividend stocks actually means. Are highest dividend stocks equities with the highest dividend payout amount or the highest yield?
High payout amounts deliver significant flows of cash income. For instance, the Farmers & Merchants Bank of Long Beach (OTCBB:FMBL) pays a quarterly dividend s of $27 per share. That is a hefty annualized forward dividend payout of $108. In addition to this regular divided payout, the firm paid a special dividend of $15 in December 2019 for a $123 total dividend payout last year.
Furthermore, the current dividend payout ratio is less than 19%. Therefore, the company uses only one fifth of its current earnings to cover dividend distributions. With a payout ratio that low, the Farmers & Merchants Bank of Long Beach can easily sustain this level of dividend payouts in the near future.
Moreover, the company would have to boost its dividend payout amount more than 50% before reaching the lower limit of the 30% to 50% range that investors generally consider optimal.
Based on the metrics listed above, Farmers & Merchants Bank of Long Beach seems like an optimal candidate as on of the highest dividend stocks. However, just one additional metric — the stock’s share price — shatters that perception. Even after dropping more than 6.5% since the beginning of March 2019, the current $7,100 share price translates to a dividend yield of just 1.5%. Therefore, while delivering an extremely high cash flow, this stock does not offer a great level of return on investment based on the dividend payouts.
Furthermore, the company’s dividend payouts could not offset the asset depreciation, which resulted in overall total losses of 1.75% over the past three years and 9.7% over the trailing one year. The company delivered positive total returns over the past five years but total combined gains over that period was still below 30%.
Alternatively, also trading as an over-the-counter equity, Four Corners, Inc. (OTCBB:FCNE) pays currently a quarterly dividend of only $0.05. On an annualized basis, that quarterly payout corresponds to $0.20 payout, which is less than 1% of the annual dividend distribution from the first example above.
However, with the share price currently at just $1.58, the Four Corners’ current dividend payout is equivalent to a dividend yield of more than 12.6%. That yield level is more than eight times higher than the Farmers & Merchants Bank’s 1.5% yield.
Moreover, Four Corners supplemented its high dividend yield with robust asset appreciation and delivered to its shareholders a total return of nearly 90% just over the trailing 12 months. That is three times higher than the Farmers & Merchants Bank’s total return over the last five year. Additionally, Four Corners rewarded its shareholders with total returns of nearly 440% over the last three years, as well as a total return in excess of 615% over the past five years.
Therefore, it seems obvious that, instead focusing on the payout amount, investors should look for high dividend yields when seeking the highest dividend stocks. Unfortunately, that is not necessarily the case. That would be too easy.
Is Dividend Yield the Best Benchmark for Identifying Highest Dividend Stocks?
A simple ratio of the total annual dividend payout and the current share price, the dividend yield is the most frequently used dividend measure. This metric is relatively easy to calculate and is readily available from most sources of information on investment markets. Unlike the pure payout amount, dividend yield’s connection to the equity’s share price also reveals the current income payout relative to the amount of funds invested in a particular security.
Higher yields are obviously better. Unfortunately, that is not necessarily the case either. For instance, the oil and gas exploration company Helmerich & Payne, Inc. (NYSE:HP) currently offers a 15.34% forward dividend yield. This yield level is higher than 98% of the nearly 15,000 equities traded on the major exchanges in the United States. In addition to being one of the highest dividend stocks in terms of dividend yield, the company also boosted its annual dividend payout for the past 19 consecutive years.
Based on these indicators, Helmerich & Payne’s stock certainly looks like one of the highest dividend stocks and might appear as a good potential candidate for inclusion in one’s investment portfolio. If dividend income were the sole investment objective, Helmerich & Payne would certainly make the cut.
Unfortunately, the rising dividend payouts and the high dividend yield were not enough to compensate for the company’s share price drop of more than 60% just over the trailing 12-month period. The robust dividend payouts offset only a small portion of the share price pullback, but the overall one-year losses still exceeded 50%. The 73% share price drop over the past five years was higher than the one-year pullback, However, five years of dividend distributions cut the total losses to under 50% for the five-year period. Therefore, while delivering high income, this stock resulted in overall losses.
Which Types of Equities Offer the Highest Dividend Stocks?
The average dividend yield of the S&P 500 index has been hovering around 2% over the past few years. Additionally, the simple, unweighted average yield of the Dow 30 companies is currently just slightly below 3%. Most other major indices and the overall markets in the United States generally deliver longer-term yield averages in the 2% to 3% range.
While individual dividend yields vary from equity to equity, certain types of equities generally offer higher dividend yield rates than other types. Companies that are incorporated and conduct business as C- corporations, have the liberty to choose any level of dividend distribution they desire. These equities have this freedom because they distribute dividends from their after-tax, net earnings.
However, some other types of equities — business development companies (BDCs), master limited partnerships (MLPs) and real estate investment trusts (REITs) — have special taxation privileges that result in higher levels of dividend distributions and higher dividend yields.
The Internal Revenue Service (IRS) allows these types of equities to carry zero corporate tax liability as long as they pay at least 90% of their free cash flow as dividends or distributions to their stakeholders. Consequently, this tax advantage allows these types of equities to be among the highest dividend stocks, which pay higher dividend yields than other types of equities, such as C-corporations.
Which Sectors Offer the Highest Dividend Stocks?
Lowest Dividend Sectors
Just like some equity types enjoy regulatory advantages that allow them to offer higher dividend yields, certain market sectors offer operational advantages that lead to higher dividend yields. Because they funnel most or all of their earnings back into research and development very few companies in the Health Care and Technology sectors even offer dividend distributions. Furthermore, the few equities in these two sectors that do distribute dividends tend to be larger, older and more established companies.
The Health Care sector offers the lowest average dividend yield of just slightly more than 0.5%. Among the 16 sub-segments within this sector only the Major Drug Manufacturers segment offers an average yield in excess of 2%. The larger, older and more established companies in this segment drive the average yield higher. However, even within this segment, only three companies – AbbVie, Inc. (NYSE:ABBV), GlaxoSmithKline PLC (NYSE:GSK) and Pfizer, Inc. (NYSE:PFE) currently have dividend yields above 4%.
While not below 1% like Health Care, the Technology sector offers an average dividend yield of approximately 1.2%. Again, some sub-segments that include larger, older and more established companies outperform in terms of dividend yield. Within the Technology sector, the Data Storage Devices segment’s current 3.25% dividend yield is currently the highest average. Leading the segment and the overall sector as Seagate Technology (NASDAQ:STX), NetApp Inc. (NASDAQ:NTAP) and Western Digital (NASDAQ:WDC) each with a dividend yield in excess of 4%.
Highest Dividend Sectors
Now that we have mentioned the few bright spots among the lowest sectors, we can focus on the other end of the spectrum and identify the highest dividend stocks. On the top end of the dividend scale, Basic Materials and the Financial sector deliver average yields of approximately 4% and higher.
Within the Basic Materials sector, which overall currently offers a 4% yield average, the dividend-paying companies in the Integrated Oil & Gas segment offer an average yield of more than 7%. However, as warned above, these yields have been driven higher by the recent share price pullbacks that have hit oil and gas companies especially hard.
While increasing dividend yields to as high as 9% for the top four companies — BP PLC (NYSE:BP), Equinor ASA (NYSE:EQNR), Royal Dutch Shell plc (NYSE:RDS-A) and Eni S.p.A. (NYSE:E) — share price declines have delivered overall losses between 30% and 40% over the past year. Therefore, the top yield of 9% would be in the 5.5% to 6.5% range without the share price pullback.
The Financial sector currently offers an average yield in excess of 4%. The highest segments are Closed-End Funds and REITs, which should not come as a surprise as REITs are one of the high-dividend equity types mentioned above.
With an average yield of more than 10%, equity funds outperformed foreign funds (6%) and debt funds (5.6%) among all Closed-End Funds. Furthermore, Hotel & Motel REITs and Residential REITs and diversified REITs offer highest average yields of 8.74%, 6.53% and 6.48%, respectively.
As outlined earlier, whether looking for highest dividend stocks by dividend payout amount or yield, those are just two metrics that investors should consider. However, to get a more complete evaluation of any equity, investors must include more dividend metrics as well as additional financial and operational considerations. Furthermore, investors must use these indicators to create their own analytical models for identifying the equities that best meet their individual portfolio strategy and investment horizon.
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Ned Piplovic is the assistant editor of website content at Eagle Financial Publications. He graduated from Columbia University with a Bachelor’s degree in Economics and Philosophy. Prior to joining Eagle, Ned spent 15 years in corporate operations and financial management. Ned writes for www.DividendInvestor.com and www.StockInvestor.com.