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.
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.
JP Morgan Chase yields 2.6%, a bit higher than the S&P 500's 2.0%.
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.
JP Morgan Chase has a modest payout ratio of 18%.
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 Tier 1 capital ratio is a commonly used leverage metric for banks that compares equity and reserves with total risk-weighted assets. In a financial non-crisis situation, a ratio above 13% is generally considered to be relatively conservative.
Let's examine how JP Morgan stacks up next to its peers:
Tier 1 Capital Ratio
|JP Morgan Chase||12.3%|
Bank of America
Source: S&P Capital IQ.
Each of these banks is holding a fairly normal or above-normal level of tier 1 capital. Not only are capital levels rising, but credit quality has been improving: Over the past year, non-performing loans as a percentage of total loans are down about 60 basis points at Wells Fargo, 50 basis points at Bank of America, 80 basis points at JPMorgan Chase, and 130 basis points at Citigroup.
A large dividend is nice; a large, growing dividend is even better. To support a growing dividend, we also want to see earnings growth.
5-year Annual Earnings per Share Growth
5-Year Annual Dividend per Share Growth
|Bank of America||(71%)||(55%)|
Source: S&P Capital IQ.
As much as Wells Fargo is known for its relative conservatism, JP Morgan Chase is known for its sharpness. Both have done a better job than many of their peers rebounding from the financial crisis (obviously, with the help of a massive system-wide government bailout.) Now, both have been approved by the Fed to resume paying meaningful dividends. Bank of America and Citigroup are still stuck at the $0.01-per-share level that bailed-out companies were required to cut down to during the crisis.
The Foolish bottom line
So, is JPMorgan Chase a dividend dynamo? Not yet, but one could make the case that it could become one. It has a moderate yield, a modest payout ratio, a bit of earnings growth, and an ordinary Tier 1 capital level -- so long as Wall Street doesn't cause another financial crisis. It's that degree of financial system risk, opacity, and tendency to treasure bonuses over shareholder value that makes me cautious of naming one of the largest banks a dividend dynamo, although of them JPMorgan Chase, along with Wells Fargo, comes the closest to laying claim to the title.
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Ilan Moscovitz doesn't own shares of any company mentioned. You can follow him on Twitter @TMFDada. The Motley Fool owns shares of Wells Fargo, Bank of America, Citigroup, and JPMorgan Chase. The Fool owns shares of and has created a covered strangle position on Wells Fargo. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.