In the world of investing, the companies paying good dividends are among the preferred group of stocks. The reason is simple. Dividends are difficult to manipulate; as they are directly paid to shareholders in a given time frame. Thus, if the firm announces a certain dividend payout, it better be real.
An article by the Business Line has highlighted an interesting strategy. It says, one should opt for the 10 of the highest dividend yield stocks at the start of each year and invest equal sum in each of them. And then hold them for one year. And then repeat. This exercise should be done annually as stock price movements modify the dividend yields.
If one had done this since 2008, one would have only gone wrong once since then - is the finding of this article. Investing in the top dividend paying stocks that formed part of the CNX-100 index, the returns for 2013 had been a negative -18% for this portfolio vs CNX-100 index gains of 6% in the same year indicating that this strategy doesn't work every single year.
Nevertheless, we believe this methodology is good way of investing; However in doing so, one should keep in mind some important aspects, as simply looking at dividend numbers could be deceptive.
Companies with stable and growing dividends are perceived to be promising. One should look out for steady history of dividend payouts, before investing in such stocks. Companies with growing dividends might not necessarily be offering equally good promise when it comes to earnings growth. The growing disconnect between dividends and earnings are a matter of concern. Hence, consistency in dividend as well as company prospects should be considered while picking stocks using this approach.
The bottomline is that dividends should not be the sole criterion for investments. Undoubtedly, high dividend paying companies give a sense of comfort. But these companies do not operate in isolation; there are many other factors that influence their dividend payments. And hence, one should check upon the above mentioned aspects. If high dividends are due to better cash generating capability of the business, investors should then pay attention to fundamentals and management quality too.