Imagine a scenario where you can make money while you sleep. Sounds too good to be true, right?
Enter high-yielding dividend stocks.
Now, there are lots of stocks in the market that pay dividends, but what I am talking about here is high yield. This means the amount the dividend yields in relation to its current share price.
Yield is a calculation where you divide the dollar amount of the yearly dividend into the price you paid for a share. Here’s the calculation:
Dividend Yield = Annual Dividend Per Share ($) ÷ Share Price ($)
For example, Broadcom (AVGO) currently pays a $13 yearly dividend and recently yielded 3.52%.
0.0352303523 = $13 ÷ $369
To see that long number as a percentage, multiply by 100. You get 3.52%. That’s what you earn each year for your invested cash.
The dividend amount Broadcom pays is great, but the yield is lower because of the company’s higher share price.
Now, we look at Energy Transfer (ET), which currently pays a $1.22 yearly dividend but it currently yields nearly 20%.
For me, I am much more inclined to go with ET for income because I will be able to get a yield that is over five times that of AVGO.
Beware of risk
Yes, high yield dividends are a great way to generate extra cash while also getting companies at lower prices.
However, if you are buying a company strictly for its dividend yield then you could possibly get yourself into trouble.
For example, when unforeseen circumstances such as the current pandemic happen, companies can choose to reduce or cut their dividends completely to preserve cash.
If this happens to one of the companies you bought because of its yield and nothing else, you might get stuck with a company that you don’t know anything about or even want to own.
What’s worse is now you don’t even get the dividend payout. You might be forced to either sell your shares at a loss or hold on and hope that they will start paying again.
Obviously, this is the worst-case scenario but it’s important to look at every possible risk before making a stock purchase for any reason, be it dividend or growth potential.
Now, let’s say you manage to find some great companies at good prices that also have high-yielding dividends. That will help you generate cash flow for years to come.
I am a long-term investor so when I am evaluating a stock I am doing so with the idea in mind that I am looking to buy and hold for the long run.
That means getting a company with a high-yielding dividend means the investment will provide me with passive income year after year.
Take a look at ET again which has been trading between five and seven dollars a share over the past several months.
If I bought a thousand shares that means I would be paying between $5,000 and $7,000 dollars to own the stock and getting $300 every quarter which equals an extra $1,200 per year.
Put another way, in just four to six years the stock will have paid for itself in full from the dividend alone.
To me, that is worth every penny, especially since ET is a company I have researched and understand.
My suggestion is to do your homework and find some companies that have great balance sheets and good dividend yields. Then, jump on them when they are at a price you find comfortable.
After all, who’s going to complain about extra money in their pockets?