Many investors choose to look for stock with a strong history of paying dividends in order to generate an income stream, especially in retirement. If you’re going to be investing in companies with the intent of generating a stream of dividends, you may want to examine a longer track record than just the dividends the company paid in the previous year. Looking at the average dividend yield over the past five years gives you a better idea of what you can expect shares to pay in the future, even though past performance doesn’t guarantee future results.
Significance of Dividend Yields
If you only look at how much a stock pays in dividends without accounting for the share price, you could be ignoring critical information. For example, a $2.50 dividend sounds better than a $1 dividend per share, but not if you have to pay 10 times the price for the higher dividend. The dividend yield measures the dividend as a percentage of the stock price, which helps investors determine which stocks make the best investments for them. That way, you can pick the stocks that give you the maximum dividends for your investment.
Calculating Five-Year Dividend Yield
To calculate the dividend yield over five years, first calculate the dividend yield for each of the past five years. Divide the dividends paid during each year by the stock price for that year. Be sure to include both periodic dividends and special dividends when calculating the total paid. For example, a company might pay a quarterly dividend and a special dividend at the end of the year or after selling off a portion of the company. Second, add up all of the dividend yields for the previous five years. Third, divide the result by 5 to calculate the average dividend yield.
For example, five years ago the company paid quarterly dividends of 45 cents and a one-time special dividend of 20 cents, and the stock was priced at $80. The total of the dividends paid that year was $2. Divide $2 by $80 to find that the dividend yield for that year is 2.5 percent. If the dividend yields for the last five years for the stock are 2.5 percent, 3 percent, 5 percent, 4 percent and 2.5 percent, add up those percentages to get 17 percent. Then, divide 17 percent by 5 to find that the average annual dividend yield for the past five years equals 3.4 percent per year.
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