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When I finally got to the point where I could start saving some money, I had visions of a steady flow of income from interest payments. So I started shopping for the best rates -- boy, was I given a rude awakening. Savings accounts paying 0.5 percent interest; money markets at 0.9 percent; and CDs not too much better at 1.1 percent and maybe as high as 3 percent if I agree to lock up my money for FIVE YEARS. I was looking down the barrel of turning that $1,000 into $1,005 through a savings account after a year -- and that was before any fees. So I started looking for something better.
I found some research suggesting over 60 percent total return in the stock market over the past 20 years has come in the form of dividends, not just the stock price going up. I had to get on this train. How did I find some good ones?
The dividend yield is dividend per share paid divided by the current share price. So, if a company pays $1.00 per share dividend per year and is worth $20, the yield would be 5 percent. That is TEN TIMES more than a savings account can offer -- worth the risk if you ask me.
Historical Dividend Payments
I leaned towards companies that had lengthy histories -- decades -- of paying dividends to shareholders. I even came across Dividend Aristocrats -- major companies that have increased their dividend for 25 or more consecutive years. Nice!
Low Payout Ratio
This is the dividend per share divided by the company's earnings per share. If a company earned $2 per share and had a $1 per share dividend, that is a 0.5 or 50 percent payout ratio -- this suggested that there was still room for the dividend to grow and had some margin for error if they had a bad year.
Heeded Too Good To Be True
A search for stocks with the highest dividends brings you some very interesting results -- companies with 10 percent and higher dividend yields. These can be good investments but can also be very speculative investments. I stayed away from these.
A big pharmaceutical manufacturer caught my eye. The stock was around $25 and paid $1.28 per share of dividends -- a whopping 5.1 percent yield. I was feeling good. But then, they cut the dividend in half and the stock price fell as low as $15 - ouch. I nearly panicked but remembered my strategy -- I wanted that safe, dividend income. So, what did I do at $15? I bought more. A 64 cent per year dividend at $15 stock was a 4.3 percent yield -- not bad. A few years later, the stock has doubled in price from those lows and the dividend is now $0.96 per year -- and some analysts think another dividend raise is in the works. The shares I bought at $15? Well, I am earning a 6.4 percent return on those shares I bought at those levels. Sure, the stock goes up and down each day, but each quarter, the checks keep rolling in. Sure beats a savings account.
There may be more opportunity with dividends than with straight interest bearing accounts, but obviously there's also more risk as well. This isn't the smart move for everyone, but it's an option that's sometimes overlooked for growing your money.