If you’re looking for a dividend investing for beginners guide, then this is for you!
One of the beauties of investing is that you’re able to multiply your money even in your sleep.
All this thanks to compound interest which Albert Einstein once described as the eighth wonder of the world.
Dividend stocks are stocks where the underlying business pays out a portion of its earnings to its stock shareholders, like you!
When these dividends are reinvested into the stock market, that’s where the magic of compound interest happens given time.
But is dividend investing for beginners simple?
Well, here are 3 key metrics for you to look out for when choosing dividend stocks.
#1: Dividend Growth and Sustainability
As you investing for future returns, a company’s dividend track record is a key metric for consideration.
Some questions to ask yourself when picking a dividend stock are:
High dividend yields are fantastic but can they be sustained into the future?
Does the company consistently pay out dividends?
Do they have a track record of increasing dividend yields through the years?
First you should take look at the dividends the company has paid out over the past 10 years to identify any trends.
Let’s taking Procter & Gamble (PG) as an example. In the past 10 years, the company has been growing its dividend per share payout to its shareholders.
The trend has also been consistent in the most recent 1-3 years and even amid the Covid-19 pandemic.
But, you definitely can’t predict a company’s performance in the future.
So, what you can do is to analyze a company’s dividend payout ratio!
The dividend payout ratio essentially tells us how much of a company’s net income is paid out as dividends.
A good start for dividend investing for beginners is to look for companies that have a payout ratio of under 50%.
This means that only 50% or less of a company’s net income is paid out as dividends.
You can take this as a sign that the company will be able to maintain its current dividend yield!
#2: Company’s Debt Management
You might think debt is always bad, but debt is powerful when used wisely and managed appropriately.
It gives the company leverage to scale and grow its revenue.
However, mismanaged debt can be detrimental to any company.
When a company cannot service its debt, your dividends are affected too!
To ensure a company has robust and healthy financials, you should consider two important debt-related metrics on a company’s balance sheet.
What you should look out for are: interest coverage ratio and debt-to-equity ratio.
Interest coverage ratio measures how well a company can pay interest on its outstanding debt.
It is calculated by dividing a company’s operating income by its interest expense for a given period.
The higher the coverage ratio, the better it is, though the ideal ratio varies from industry to industry.
The debt-to-equity ratio tells us how leveraged a company is.
You can calculate this by dividing the total liabilities of a company by its total shareholder’s equity.
A company with a high debt-to-equity ratio shows that it uses higher amounts of debt and this should serve as a cautionary sign for us to dig deeper to understand the debt situation before investing.
#3: Business sustainability and growth
The most important metric not to be neglected is the underlying business’s sustainability and growth.
For dividends to be sustainable and grow, the business itself has to continually grow.
This is where the best businesses set themselves apart from mediocre businesses.
Essentially, the question you should ask to ask is: does the company have what it takes to fend off competition and stay on top over the long run?
You need to find out if a company has an economic moat.
Economic moats can come in the form of high switching costs, cost advantages, network effects, intangible assets and efficient scale.
Conclusion
Amid high-growth stocks being the hottest thing in town right now, you can definitely find dividend stocks on discount.
Though you shouldn’t expect explosive growth, these provide a less volatile way of growing our wealth through dividends and mild capital growth over time.
