Many investors are drawn to high-yield stocks. Being paid 10%, 12%, or even 15% on your investment in cash dividends seems a more certain and predictable approach to earning attractive returns compared to trying to predict the downs and ups of non-dividend or low-yield stocks. This strategy can work until the company behind a high-yield stock slashes its dividend rate. This event will cause the double whammy of lost future income and usually lost principal value as the share price also gets hammered by the market.
My stock market research is focused on dividend stocks, and I do think that a well selected portfolio of high-yield stocks can provide both an attractive cash flow income stream and reasonable portfolio value protection over time. The challenge is to be able to separate those high-yield companies that can continue to support and possibly grow their dividend payments vs. those that will eventually be forced to cut the payouts to investors. One investing maxim is that a very high yield is a sign that the dividend rate is unsustainable. That is not always the case, but if you buy into stocks that have yields in the teens, you need to understand if the company is generating enough cash from their business to continue paying the dividend.
My analysis of companies that pay a high yield involves researching and forecasting the free cash flow per share a company is generating. It is a task that requires continuous monitoring of the quarterly earnings reports to determine if cash flow is stable, growing, or declining. A different analysis approach is required to dig out distributable cash flow per share, and the topic is a popular one when I am invited to present my strategies at various investor conferences. The biggest goal of cash flow analysis is to find those high-yield stocks that are in danger of a dividend reduction and either not buy them or sell them if you already own shares. Here are five that need to be sold immediately and one example of a stock I recommend with a safe double-digit yield.
