It is common for investors to blindly follow the herd, which often means they are more focused on receiving income rather than capital growth they could gain from buying stocks.
However, smart investors know that investing is not just about income, it’s about the total return, because chasing 7% for income while the stock is falling 20% or more simply doesn’t make sense.
Many times, investors give up much more in capital than they gain in income and Telstra is a perfect example of this. It fell 72% over nearly 12 years between 1999 and 2010 and after rising over four years, it fell 61% between 2015 and 2018. During this time, investors held the stock for the dividend income, yet many long-term investors would be lucky if they were in profit, especially when you factor in inflation.
Investors are often encouraged to hold real estate stocks and REITS long term so as to receive dividends, which has not been a wise strategy this year. A study of 45 of these stocks shows that 40 have averaged a loss of 20% since January 1. The average dividend yield on property stocks is just over 4%, so investors are really going backwards by holding these stocks.
With the current challenges around commercial property caused by COVID and employees preferring to work from home more, I suspect we may not have seen an end to the downfall in real estate stocks and REITS. While I am not suggesting this will continue over the long term like Telstra and fall for ten or more years, investors need to be mindful they are investing to make a profit.
Regardless of the stock prices direction, we also need to remember that a company can reduce or suspend dividends at any time, which they did during the COVID meltdown. You also need to remember that the more the price of a stock falls, the higher the dividend yield, which is often used to tempt investors into buying and holding these stocks in an attempt to suspend the falling share price.
Given this, it’s wise to understand that a high dividend yield may not always be the opportunity you think it is, because you could just be catching a falling knife. First and foremost, investors should focus on stocks that will rise in value before considering any dividend yield.
Dale Gillham is Chief Analyst at Wealth Within and international bestselling author of How to Beat the Managed Funds by 20%. He is also author of the bestselling and award winning book Accelerate YourWealth—It’s Your Money, Your Choice, which is available in all good bookstores and online at www.wealthwithin.com.au