Chimera: Dividend Dynamo or Blowup?

Dividend investing is a tried-and-true strategy for generating strong, steady returns in economies both good and bad. But as corporate America's slew of dividend cuts and suspensions over the past few years has demonstrated, it's not enough simply to buy a high yield. You also need to make sure those payouts are sustainable.

Let's examine how Chimera (NYSE: CIM) -- of which I purchased shares in a portfolio I co-manage for The Motley Fool -- stacks up in four critical areas to determine whether it's a dividend dynamo or a disaster in the making.

1. Yield
First and foremost, dividend investors like a large forward yield. But if a yield gets too high, it may reflect investors' doubts about the payout's sustainability. If investors had confidence in the stock, they'd be buying it, driving up the share price and shrinking the yield.

Chimera yields a whopping 16%. Ordinarily a yield this high would be a red flag, but it’s not unusual for mortgage real estate investment trusts today.

2. Payout ratio
The payout ratio might be the most important metric for judging dividend sustainability. It compares the amount of money a company paid out in dividends last year to the earnings it generated. A ratio that's too high -- say, greater than 80% of earnings -- indicates that the company may be stretching to make payouts it can't afford, even when its dividend yield doesn’t seem particularly high.

As a REIT, however, Chimera is required by law to pay out more than 90% of its earnings in the form of dividends in return for not having to pay corporate income taxes.

3. Balance sheet
The best dividend payers have the financial fortitude to fund growth and respond to whatever the economy and competitors throw at them. The debt-to-equity ratio is a good measure of a company's total debt burden.

Let's examine how Chimera stacks up next to its peers:

Source: Capital IQ, a division of Standard & Poor's.

Notice in the table how both leverage and portfolio yields tend to rise as the other falls. Chimera employs much less leverage than its peers, but that’s partly a function of the fact that its strategy is to buy riskier and higher-yielding assets for its portfolio.

4. Growth
A large dividend is nice; a large growing dividend is even better. To support a growing dividend, we also want to see earnings growth.

However, Chimera is too young a company to compare growth rates.

The Foolish bottom line
How long Chimera is able to maintain these high yields in the future depends on the strength of its portfolio selection. Like other mortgage REITs, though perhaps not to the same extent, the persistence of short-term interest rates that are holding borrowing costs down is important. These are two factors dividend investors will want to watch.

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