One of the merits associated with investing in stocks relates to the dividends drawn from them. For the uninitiated, dividends refer to the distribution of profits that companies provide their shareholders with. When looking at dividends, it makes sense to understand what dividend yields are. Right from what is dividend yield to how to calculate dividend yield using the dividend yield formula has been discussed below.
Dividend Yield refers to the financial ratio of dividend to price. Simply put, it gives a measure of how much a shareholder is earning per share from the investment in relation to the total dividends. It is expressed as a percentage. With this, it is possible to understand the extent to which a company pays out dividends that are relative to its stock price each year.
The price/dividend ratio serves as the reciprocal of dividend yield.
Mathematically speaking, the dividend can be expressed as:
This basically means that you can take the amount of dividend per share and divide that by the market value of the dividend. But normally, companies announce dividends as gross dividends distributed. So, here the dividend will have to be divided by the outstanding common stock for that year.
Dividends are important for those who wish to earn passive income. From a company’s point of view, giving dividends is a sign of good financial health since the dividends come from the profits of the company.
From past trends, companies that pay dividends do so at regular intervals to keep their shareholders invested, as any sign of not giving out dividends is not received well by the investors. And the companies that do so are looked at as mature companies with good control over liquidity. Exceptions can be given in some cases, like growth companies. Although they make profits, their dividend yield is marginal since most if not all of the profits are reinvested into the company for its growth.
As per indications given by historical data, a focus on dividends may help boost returns rather than slow down their pace. To understand this better, consider the fact that most investors tend to reinvest their dividends into the companies they’ve already invested in. This move helps compound their ability to accrue greater dividends down the line.
Although investors appreciate high dividend yields, they must note that these payments could be made at the cost of the potential growth of the company in question. Simply put, assume that each rupee a company pays shareholders as dividends is a rupee that the company hasn’t invested towards its own growth such that it can accrue greater capital returns.
A dividend yield shouldn’t be used as the sole determinant along which a given company’s stock is evaluated. This is because information pertaining to dividends may be old or based on incorrect information. A number of companies may have a high yield while their stock is falling. Should such companies experience too much of a decline, they may choose to withhold the amount of their dividend if not choose to eliminate it entirely.
It is important to remember that while dividend yields can be illuminating in certain scenarios, they may not always provide the complete picture. The dividend yield is different for different industries. Hence, always look at varied aspects of a company rather than its dividends alone when deciding whether to invest in it. Lastly, it’s also important to know that a stable dividend yield and strong fundamentals are a few things to consider when buying a stock.
Dividend yield is the amount a company pays to investors as dividends compared to the current market price of the stock. For example, if a company has an ₹1000 share price and pays a dividend of ₹50 each year, then the dividend yield is 5 per cent.
Ordinarily, a dividend yield between 2 and 4 per cent is considered strong. Anything exceeding 4% is viewed as a good buy but one tethered to several risks. Therefore, a 7 % dividend yield is a good but risky investment.
The formula for dividend yield is as follows.
Dividend Yield = Annual Dividends per Share / Price per Share
To calculate this ratio in Excel, simply divide the cell that features the sum of 12 months’ worth of dividends by the cell that features the company's current stock price.