Dividend Yield

Dividend yield is the annual cash dividend paid on a share divided by the share's current price, expressed as a percentage. It tells an investor how much income the share produces each year for every unit of money invested at today's price, and it is the income part of a share's total return; the other part is the change in price.

Because the price is in the denominator, the yield moves every time the share price moves, even if the dividend does not change. Data providers quote several versions: a trailing yield based on the dividends actually paid over the past twelve months, and a forward or "indicated" yield based on the latest declared rate. Investment funds report related but different figures, notably the distribution yield and, in the United States, the standardised 30-day SEC yield.

Think of buying a flat to rent out. If the flat costs 200,000 and brings in 8,000 a year in rent, the rent is 4% of the price. Dividend yield is the same idea for shares: the dividend is the rent, the share price is the purchase price.

If flat prices in the area fall but the rent stays the same, a new buyer gets a higher percentage for their money. The same happens with shares: when the price drops and the dividend holds, the yield rises. That is why a high yield can mean a bargain or a warning that buyers expect the dividend to be cut.

The standard calculation is:

Annual dividends per share is the cash paid per share over a year, and price per share is the current market price. Worked example: a company pays a quarterly dividend of 0.50, or 2.00 a year, and its shares trade at 50. The yield is $2.00 \div 50 \times 100 = 4\%$. If the price falls to 40 while the dividend stays at 2.00, the yield becomes $2.00 \div 40 \times 100 = 5\%$.

Dividend yield is linked to two other ratios. It equals the payout ratio (dividends divided by earnings per share) divided by the price-to-earnings ratio. A company paying out 60% of its profit on a P/E of 15 therefore yields $0.60 \div 15 = 4\%$.

• Trailing yield adds up the dividends paid over the past twelve months. It uses facts, but a recent cut or increase is reflected only gradually, and a one-off special dividend can inflate it.
• Forward or indicated yield annualises the most recent regular payment, for example the latest quarterly dividend times four. It reflects the current rate but assumes it will continue.
• Distribution yield is used by a mutual fund or an ETF: the most recent distributions annualised and divided by the fund's price or net asset value. It can include return of capital and is not standardised.
• The 30-day SEC yield is a standardised US fund measure based on the net investment income earned in the latest 30 days after expenses, the measure SEC rules require funds to use when they quote a yield in advertising, so that funds can be compared on the same basis.

A mutual fund has no dividend yield in the strict sense of a company's ratio; quoting the yield of a fund means one of the fund measures above, and the fund's documents state which.

Yields vary widely across sectors and over time:

• Sector. Utilities, tobacco, telecoms, energy and real estate companies have historically offered higher yields; technology companies, which reinvest more, usually yield little or nothing.
• Interest rates. Income investors compare dividend yields with yields on Treasury securities and other bonds. When bond yields rise, high-dividend shares often fall in price, pushing their yields up to stay competitive.
• Valuation. A cheap value stock tends to yield more than an expensive growth company with the same payout.
• Payout capacity. A dividend covered comfortably by earnings and cash flow is more secure than one that absorbs nearly all of them.

Index providers publish yields for whole markets, such as the S&P 500. S&P Dow Jones Indices also runs the S&P 500 Dividend Aristocrats index, limited to S&P 500 members that have raised their dividend for at least 25 consecutive years, a popular screen for income investors.

A "yield trap" is a share whose yield looks high because its price has fallen sharply on fears that the dividend will be cut. If the cut follows, the yield an investor thought they were locking in disappears and the price often falls further. Analysts therefore check the payout ratio, debt levels and cash flow before relying on a high yield.

Other limits of the measure:

• It ignores share buybacks, which many companies, especially in the United States, use instead of or alongside dividends; a broader "shareholder yield" adds them in.
• It says nothing about growth: a 2% yield that rises 10% a year may produce more income over a decade than a flat 4% yield.
• It is not comparable with a bond's coupon rate or yield, because dividends are not contractual and the share has no maturity date.
• It leaves out capital gains and losses, so a high-yield share can still deliver a poor total return.

For investors seeking passive income, dividend yield is a useful first filter, best used together with dividend growth, payout ratio and an assessment of the business.

• Investor.gov (SEC): Dividend