With a shaky stock market and low interest bonds, I can see people going crazy for income producing assets. Some of them are the Highest Yield Dividend Stocks. However, chasing the highest yield dividend stock is not necessarily a good idea.

 

After reviewing a portfolio paying an 8% dividend yield, I wanted to share with you another example where high dividend yield doesn’t equal high investment returns after all. But before this, I invite you to see the top dividend payers in the US and Canada:

 

Highest Dividend Yield in USA

Highest Dividend Yield in Canada

 

Now, on with a little story…

Yellow Pages – Now The Investors Are Seeing RED!

 

If you go back to the beginning of 2011 on the Canadian Stock Market, there was a big change; the end of income trusts. Before January 2011, there were tons of companies that were able to distribute earnings before taxes through dividend payouts. In fact, only the investor holding the income trust units were paying taxes on the dividends received. This is how companies were able to distribute very high payouts to the benefit of happy investors. This tax structure was first put into place to encourage investors to invest in oil prospecting companies. But since investors are greedy, several companies started to convert into income trusts in order to generate more capital. Yellow Pages, known for its famous company directories, was one of them.

yellow pages

One of the Highest Dividend Stock Distributions, Highest Dividend Yield… but Lowest Investment Return

 

Upon its conversion, the Yellow Pages group kept a very high dividend payout structure. Since its IPO, YLO (which was previously YLO.UN) was distributing 8%+ dividend payouts. Investors were seduced by the promise of high dividend yield and the fact that company directories distribution produced a steady income stream.

However, those who bought one of the highest dividend yield stocks on the Canadian market probably ignored fundamental data. In fact, Yellow pages has been struggling with its current financial structure (high debt, high dividend payouts) and the growth is not there to support it! Their current strategy? Selling its Trader Corp. Unit for $745M to pay off a part of their debt and avoid a downgrading of their credit rating to junk. That’s pretty bad for a business once considered blue chip, trading as high as $16 back in the good old income trust days (2006).

 

YLO is definitely one of the highest dividend yield stocks in Canada with a 27% yield…

Lately, the stock plunged so fast that its current dividend yield is sitting over 25%! Financial analysts downgraded the company upon its inability to maintain its dividend distribution. Then, short sellers jumped into the game and pushed the stock to its lowest level. With such a high dividend yield, it is obvious that the market doesn’t expect YLO to go back up and maintain its dividend.

 

So was it worth it to chase YLO when its dividend yield was 8-10%? If you had only looked its previous dividend payout ratio, you would have noticed that the company was paying money it wasn’t generating… When the dividend yield is high and the payout ratio is over 100%, it’s never a good sign.

 

I would rather have lower yield dividend payers in my portfolio and keep my capital at the same time. A (ridiculously) high dividend yield should never be part of a buying strategy when analyzing a stock!

 

Disclaimer: I do not hold YLO.

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6 Comments   |  

6 Comments

July 11, 2011, 7:58 pm

Great article. Chasing yield is never a good idea.

What’s your thoughts on Telefonica? I am long…and have thought to myself from time to time that I’m chasing yield a bit on it (9%). On the flip side of the coin I feel that it’s dividend is sustainable with a payout ratio of around 75%, and I feel the market is punishing it because it’s a Spanish Company. P/E is very low. It’s business isn’t going anywhere and it has a large revenue base in emerging markets.

Thanks for any thoughts.

July 12, 2011, 6:23 am

@Dividend Mantra –
The problem I see with TEF is their debt. They have $86B in debt, or roughly $17/share. Compare that to their $3.20 EPS (ttm). When you figure that in, then the payout ratio of 75% looks a little shakier.

From that perspective, AT&T and Centurylink look a little more attractive to me in the telecom arena. Those guys have their own risks as well (CTL payout ratio is extremely high). But they are both aristocrats, so that weighs heavily as well.

July 13, 2011, 6:33 am

I wholeheartedly agree that chasing yield is never a good strategy. Investors who only focus on the dividend yield, without doing any homework on understanding the business, are taking a very large risk on their hard earned money.

Back in 2008 many investors in the US piled on to high yielding financials like BAC, C etc, only to see their disitrbutions cut or eliminated.

July 21, 2011, 10:34 pm

[...] The Dividend Guy Blog with ‘Chasing Highest Yield Dividend Stocks Is Chasing Your Own Loss‘ [...]

August 4, 2011, 8:55 am

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October 5, 2011, 5:55 pm

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