Investments that pay dividends are attractive to people for a number of reasons. Passive income is usually a preferred item in the minds of most investors. Whether it is passive income you see or not, as an investor, you need to not let yourself get lost in looking for the company with the highest dividend yield.
It might seem counter-intuitive, but going for a high yielding company is not always the best play as an investment. I do not mean to make an argument here about how high yielding stocks are inherently riskier than X class of stock. My argument hinges on the fact that some companies have a historical track record of dividend growth, while others do not.
Dividend growth is extremely important to any investor that is drawn to a stock/fund because of its yield. This is especially true for long-term inventors. A track record of dividend growth can lead to very large regular distributions of passive income (dividend income).
For example, a company that you likely have a product of in your house is Pepsi (PEP). It’s an international company, has great brand recognition and makes drinks and snacks that are enjoyed by people of every walk of life.
From a quick glance at PEP’s historical performance you will see that they have a strong history of paying quarterly dividends. With a second look you’ll see that they also have been steadily increasing their quarterly payout amount for over 20 years.
For the sake of this example, let’s look at the last 5 years. In the last 5 years PEP’s dividend has grown annually by an average of 12.77%. If that trend continues, you’re effective yield based on your initial buy-in price is going to become very large. Think about this…If PEP’s dividend growth rate holds, a 3% dividend yield (around what PEP currently yields) will turn into a near 10% yield based off your initial purchase price in a matter of 10 years. This is what building wealth is all about.
If you plan to hold a stock for a number of years and a dividend payment is one factor that you’re being drawn toward, make sure to consider the historical growth shown in the stock’s dividend payment. Even a company that has a larger dividend yield may not be superior in the long-run to a company that has shown a commitment to growing its dividend distribution.
Disclosure: No Position