Dividends are once again in vogue. But unlike the return of skinny jeans -- particularly for males -- I'm pretty stoked about dividends.
I think there are a host of reasons that this seeming relic of the investment world is once again being prized. For one, it's tough to be a company primarily skilled in financial shenanigans and consistently pay a dividend. After all, when you make your distributions you actually have to distribute cash to your shareholders.
Another reason the payout once again has the power is that after a market crash the likes of which we haven't seen for decades, investors like to see a path to returns that doesn't rely on Mr. Market. And we certainly can't overlook the fact that dividend yields have plumped up recently while Treasury yields are nothing short of pathetic.
Don't get lazy
Dividends have a reliable, dependable feel to them. They probably remind you of your grandpa and Werther's Originals. That's why we like them, they're nice and easy.
But hold on there bucko, they're not that easy. Don't think you can just point to a few stocks that post a dividend yield and then nod off in front of the TV like Gramps used to. That's right, you actually need to pay attention to which dividend stocks you're picking.
Get discerning
As I noted above, good dividend payers can offer you peace of mind and reliability. Great dividend payers can offer you that, plus steady growth in the payout.
But there are dividends floating around out there that are neither good nor great. These are payouts coming from companies that have hefty debt levels, short operating histories, and not enough cash flow to maintain their payout -- along with a host of other yellow and red flags.
Below are three such questionable dividend payers that I wouldn't recommend to you and I definitely wouldn't recommend to grandpa.
|
Company |
Current Yield |
Payout Ratio |
Debt to Equity |
Three-Year Dividend CAGR |
|---|---|---|---|---|
|
Chimera Investment (NYSE: CIM) |
17.6% |
69% |
131% |
n/a |
|
Huntsman (NYSE: HUN) |
3.8% |
NM |
235% |
26% |
|
KB Home (NYSE: KBH) |
2.2% |
NM |
285% |
(37%) |
Source: Capital IQ, a Standard & Poor's company, and Yahoo! Finance.
Now these aren't necessarily bad companies, but the dividends they pay aren't for the faint of heart and they're certainly not for investors that want to count on reliable, growing payouts year-in and year-out.
Digging in
Chimera's business model is enough to send shivers down the spine of most investors. The company focuses on buying mortgage-related debt, but unlike Annaly Capital Management (NYSE: NLY) -- whose management company runs Chimera's portfolio -- the company targets debt that isn't guaranteed by Fannie Mae and Freddie Mac and often isn't even investment-grade paper. The company also looks at other areas of the mortgage-investment buffet including prime and Alt-A mortgage loans, commercial mortgage-backed securities, and collateralized debt obligations.
The payout ratio and debt levels are both purposely kept at elevated levels -- the payout ratio because Chimera is a REIT and the debt levels to juice the company's returns. But just because there's a method to the madness doesn't necessarily make it safe for investors.
And as for the dividend growth, we can't measure it. Like the company, Chimera's dividend doesn't have much of a history for us to go on. But let's just say consistency hasn't been a hallmark of the payout.
Chemicals specialist Huntsman doesn't offer much comfort through cash flow. Over the past 12 months, nearly $350 million in cash was spent in Huntsman's operations, and that's before almost $170 million in capital spending. That isn't always the case for Huntsman, in fact, 2009 saw a big cash inflow, but it highlights the volatility that tends to haunt the chemicals industry. And if dividends have an archrival, it'd have to be financial volatility.
And that brings us to KB Home. Do I really need to say much about this one? Sure, cash flow has been good as KB works off its housing inventory, but the company has more debt than it has inventory. And with a wash of vacant homes across the U.S., KB's business is going to be, at best, a slog for years to come.
KB has already slashed its dividend in recent years, but as it looks around at competitors like Hovnanian (NYSE: HOV) and Beazer (NYSE: BZH) that don't pay out a dime, KB may start to wonder why it's not hanging on to all of its cash.
Fortunately for dividend lovers, there are plenty of companies out there that are in a much better position to make investment portfolios shine with reliable, growing dividends. You just have to be willing to get up off that davenport and do a little work.
Looking for the antidote to these scary yielders? Check out this dividend play for a lifetime.
