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Best dividend tips

This article appeared in the February 2013 ASX Investor Update email newsletter. To subscribe to this newsletter please register with the MyASX section or visit the About MyASX page for past editions and more details.

These stocks fit my criteria for yield investing: reliable dividends and capital growth potential.

Photo of Dale Gillham By Dale Gillham, Wealth Within

Over the decades I have been helping traders and investors, the question I get asked the most is, "What do you think about this or that stock?" The majority of investors ask the question because they are losing money.

My most common question to them is, "Why did you buy it?", and the invariable answer is because it pays a good dividend.

In all honesty, that is not a good answer; especially when you consider that for 10 years I listened to investors say that about Telstra while its price fell more than 60 per cent.

In this article I will look at some of the best dividend-yielding stocks and give my thoughts on whether they are good investments for 2013. First, I set some ground rules on my thoughts about dividend investing or investing for income.

Rule of thumb 1: A good investment must have capital gain and income

Everyone has their own personal circumstances. Some say they need more income, others more growth. I would argue that both are equally important and both give you the same outcome. Income can come in two main forms: receiving dividends on shares, or capital gains.

Dividends come from company profits and are generally paid to the investor after the company has paid the tax. Capital gains are made when you sell shares at a profit and receive the gross income from that profit, on which you have to pay tax. It all comes from profit, and as such it does not matter to me if the income is generated either way, so long as it comes. The challenge most people have is a reluctance to sell shares that are making money.

Rule of thumb 2: Never buy a share just because of the dividend yield

First and foremost, the share must represent good value from a capital gains perspective.

For more than 20 years we have seen average dividend yields in Australia fluctuate between 3 and 4 per cent, and in recent times because of the GFC they have risen to between 4 and 5 per cent. In a generalised statement, high dividend yields can mean the market/stock is inexpensive and there are opportunities for wise investors to get some capital gains. This really means the market or stock has fallen so much that the dividend yield is now more attractive.

For example, my table below shows some of the current highest dividend-yielding stocks in our market, with DMX holding first place at 163.64 per cent before tax and 90 per cent after tax.

Stock Name Before Tax Dividend After Tax Dividend
FKP Property Group 13.32% 0.80%
Multiplex European Property Fund 12.63% 6.90%
DMX Corporation Limited 163.64% 90.00%
Trafalgar Corporate Group 60.38%  33.20%
Trojan Equity Limited 39.71% 31.20%
Agricultural Land Trust 35.33%  19.40%
RHG Limited 32.22% 25.30%
APN News and Media Limited 25.04% 15.50%
CSG Limited 22.94% 18.00%
Hastings High Yield Fund 18.07% 9.90%

Source: Wealth Within

These returns would seem very attractive to anyone, especially if your capital was guaranteed, but it does not quite work like that. The dividend yield you see is directly related to the current share price, not necessarily what you paid. For example, if one of your shares is worth $1 and the dividend is 5 per cent, but you paid $2, your dividend yield would be 2.5 per cent.

Remember with dividends that:

  • A high dividend yield can be a sign of a falling share price and/or an unprofitable company, which is more common
  • A high dividend yield can mean the company is very profitable as it has spare cash to give investors
  • Often a high dividend yield is unsustainable because of point one above.

I suggest you look for shares that are profitable, as buying a share for $2 because it pays a good dividend, only to see if fall to $1 or even 50 cents, is not a wise investment.

When I suggest this to investors, one of the most common comments I get is, "Don't worry, the stock will come back to what I paid for it." What about Babcock and Brown, ABC Centres, One.Tel, HIH and all the other supposedly good shares that are no longer with us?

Don't fool yourself - getting a 10 per cent dividend only to have your capital eroded by 50 per cent is not a good investment, nor is it a way to generate income.

Dividend stocks to consider

The table below outlines the top 10 dividend-yielding shares from the top 50 stocks in our market. I talk about four shares you might like to look at this year, and frankly, holding any of these for the long term would, in my opinion, be wise.

(Editor's note: Do not read the following themes as stock recommendations. Do further research of your own or talk to your financial adviser before acting on ideas in this story.)

Company ASX code Dividend Yield %
ASX ASX 5.44
Commonwealth Bank CBA 5.41
Tabcorp TAH  7.84
Telecom Corp Of New Zealand TEL  7.03
National Australia Bank NAB  7.00
Telstra  TLS  6.32
Westpac  WBC 6.30
ANZ  ANZ  5.74
CFS Retail Property CFS  5.71
QBE Insurance QBE 5.64

Source: Wealth Within

1. Telstra

For someone who was very negative about Telstra for so long, it was strange for me to say last year that I liked it and now believe it has become one of the market's best income stocks. It has generated some nice stable gains, which is the main criteria I use when looking to invest. That said, don't expect Telstra to be a world beater in capital growth from here, but I am confident it will be a solid performer this year and for many years to come, and is unlikely to give you much grief.

2. Commonwealth Bank

Another staple for investors chasing dividend yields is CBA, and for long-term investors it will continue to be regarded as a top pick for dividends and capital gain. That said, CBA has run relatively hard the past year, and those wanting more capital gain may prefer to choose one of the other big four banks for this year.

3. ANZ/NAB

ANZ and the National Australia Bank have not performed as well in capital growth in the past few years as CBA and Westpac, and I believe there may be more upside to be gained in ANZ and NAB for 2013. NAB is paying the higher dividend yield, so this is my choice for those wanting some income.

4. QBE Insurance

My selection of QBE is simply because this blue-chip company has historically been one of the best stocks in our market, has a good dividend yield at just under 6 per cent, and over the past few years its share price has been severely hit. The price of QBE is currently around half what it was three years ago, and to me this makes QBE the pick of the bunch for patient investors, because you cannot keep a good stock like this down forever.

I believe QBE has a good probability of delivering solid capital gains in the next five years, in a similar vein to what CBA has done, and in doing so deliver quite a good income stream.

About the author

Dale Gillham is author of 'How to Beat the Managed Funds by 20%', and is Director/Chief Analyst of Wealth Within.

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