Dividends are one of the most important features of any investment in my portfolio. But it’s crucial to also examine the sustainability of a stock’s dividend before you invest your hard-earned cash.
For instance, a high-yield stock might offer a dividend of 10% … but who cares if its share price falls off a cliff, or it eliminates that once-generous dividend in the months ahead?
There are a ton of data points at our fingertips in a digital age that can help us invest wisely. But the sheer volume of facts and figures can be overwhelming, and obscure what really matters. Some investors think picking dividend stocks is a wholly quantitative exercise, but you have to also investigate the quality of those dividends, too.
In a rocky stock market environment like we’ve seen in 2022, quality is more important than ever. Any amateur stock picker can find a stock that yields 5%, 6% or more… But it’s much harder to find high-yield stocks with staying power.
Let me illustrate that fact for you with a tale of two 5% yield stocks – one dividend trap that shows up on many screens for income stocks simply because of its yield, and another that has quality as well as quantity in its dividends.
A Tale of Two Retailers – GPS and BBY
Apparel retailer Gap (GPS) and big box electronics store Best Buy Co. (BBY) share a lot of characteristics right now. Both are significantly underperforming the market right thanks to big picture consumer spending fears weighing on their operations. However, both are well-established names with strong brands within their specialty category of retail.
And perhaps most interestingly to Contrarian Outlook readers, both offer significant dividend potential; Gap yields 6.9% at the time of this writing, and Best Buy yields 5.6%.
If you are a bottom-fishing dividend investor focused on yield, you may think that the choice between these two is a relatively simple one. Both stocks are similar, so why not just dive into GPS stock, with its significantly higher yield instead of the less-generous Best Buy?
The answer to that question lies in the quality of the dividends, not just the quantity.
When you pop the hood and look at both stocks, the reality is that Gap’s dividend is at serious risk – while Best Buy investors can have a much greater degree of confidence that the paydays will keep rolling in, and perhaps even grow in the future.
Gap currently pays 15 cents quarterly, or 60 cents a year. But it’s forecasting that it will operate in the red this fiscal year – and after that, have to spend 85% of its entire profits to cover that dividend in FY2023, even if everything goes as expected and forecasts hold.
Meanwhile, Best Buy is only paying about half of its profits on dividends this year and next year. That means the generous payouts aren’t just sustainable if BBY hits a snag, but ripe for future increases if and when the business gets back on track.
Even more damning is the fact that when you look back over the last five years, Best Buy has been doing its best to deliver bigger and bigger payouts to shareholders – while Gap was flatlining before COVID-19, and then cut its dividend in response to the crisis. That doesn’t bode well for what may happen down the road if another challenging situation comes along.
When you look at the qualitative nature of their dividend payments instead of just the yield, there’s simply no contest between these two retail stocks.
After all, the best case scenario is that Gap will be spending 85 cents out of every dollar in profit on dividends next year. What happens if the profits don’t hit the mark? And how likely is it that GPS will ever be able to raise its future distributions if the payouts continue to consume so much of the profits in the years ahead?
Survive the Volatility with a Focus on Low-Risk income
Admittedly, neither of these stocks may be right for some investors. If your priority is low-risk dividends and capital preservation, taking a swing at battered consumer discretionary stocks in the middle of a downturn may be a game you’re simply not willing to play.
We understand this all too well here at Contrarian Outlook. In fact, the vast majority of the stocks we recommend aren’t “cyclical” investments at all. Rather, they are stable and low-risk income investments that will deliver for you in any market environment – with a holding period of decades, and with the stated goal that you will never have to sell a single share!
Our secure “No Withdrawal” retirement portfolio is designed to deliver a 7%+ return via dividends, even in challenging markets. The portfolio is built to help you retire on that dividend income alone – without ever cashing out a penny of your hard-earned capital.
After a brutal September where most investors are licking their wounds, that kind of insulation from market volatility is worth its weight in gold.
If that sounds too good to be true, keep in mind that this strategy has been around for decades – even if it hasn’t been fashionable during the go-go 2000s when tech stocks have been all the rage. Way back in 1987, Warren Buffett wrote to Berkshire Hathaway shareholders that “in the short run, the market is a voting machine but in the long run, it is a weighing machine.”
In other words, investors may be making emotional decisions now – and may continue to do so for a bit longer, to be honest – but eventually the assets with true value will prove themselves.
Here at Contrarian Outlook, we place a priority on the long term “weight” of investments. We’re not about chasing fads, be they high-growth tech stocks or high-dividend retailers that are doomed to slash their payouts at the first sign of trouble.
Only substantive stocks make our Buy List. Because we’ve built it to last.
Let me show you what I mean with a no-risk trial to our Contrarian Income Report, where you can check out the full details of our “No Withdrawal” portfolio. You’ll get access to our complete strategy, along with these just-released reports:
- Monthly Dividend Superstars: Yields Up to 10%, With Double-Digit Upside
- Landlording the Easy Way: Big Rents and Zero Hassles
- The Perfect Income Portfolio: Maximum Income without Unnecessary Risks
It’s clear that the same old strategies used during the bull market of past years isn’t cutting it in 2022, and won’t deliver the stability and income you need in 2023. You have to think like a contrarian, by insulating yourself from the risks and investing in only the very best that Wall Street has to offer.