Criterion: Dividends should not be the only game when investors seek better yields

While dividend yields are important for self-funded investors, they need to consider the prospects for capital gains as well.

The hunt for dividend yields should not be at the expense of capital growth. Pic via Getty Images

• Buying stocks for yield alone has proved a wealth destroyer

• The CBA this week defied its critics, but its yield is becoming thinner

• The best growth-yield stocks could be outside the ASX 200 stocks

As the February reporting season unfolds, income-dependent investors will be looking for news on dividend payouts over and above everything else.

With apologies to Alfred Lord Tennyson: it's okay to strive, to seek and to find yields – but not at the expense of capital growth.

Australian dividends are famously generous relative to most other countries, thanks to both the quantum of dividends and the franking system which boosts after-tax returns.

But the ranks of the go-to dividend paying companies are crowded.

AFIC rings the bell on CBA shares

The biggest listed investment company, Australian Foundation Investment Company (ASX:AFI) this month revealed it had dumped a $190 million slab of its holding in the Commonwealth Bank (ASX:CBA).

AFIC still retains a $975 million CBA and the bank remains its biggest holding.

But the disposal means even the bank-hugging fund deemed the bank’s valuation as overcooked.

As it happened, the CBA on Wednesday defied the naysayers, posting a 9% profit increase and upping its interim payout by 10 cents, to $2.25 per share.

The stock closed at a fresh record and the bank now trades on an historically light yield of around 3%.

The top dividend faves are not the best performers  

Broker Wilsons contends that in terms of total returns, the ASX200 dividend faves have underperformed the broader market over the last decade.

This is based on measuring the S&P ASX200 index against the S&P Dividend Opportunities index – yes, there is such a thing – with the latter underperforming the former by about 20%.

“This suggests that simplistically pursuing equity income investing solely on the basis of dividend yields has been a futile strategy over time,” the firm says.

Your columnist has invested in more than a few dividend traps over the years – and really should know better.

Beware the dividend trap

One of them was McPhersons (ASX:MCP), a purveyor of quotidian beauty products such as Lady Jayne brushes and Dr Lewinn’s skincare.

Five years ago, the company yielded in the high single digits, but last year the divs dried up. Over the half decade, the shares have lost 90% of their value.

Miners pay handsome yields – but beware

Companies with inherently patchy or cyclical profits are unlikely to stay dividend top-of-the-pops.

Miners – we’re looking at you!

Iron-ore pure play Fortescue Metals Group (ASX:FMG) in 2024 paid $1.28 a share in divs, for a handsome yield of 6-7%, fully franked.

On Macquarie Equities’ reckoning, this year’s payout will more than halve, to 59.8 cents, while the shares also have lost one-third of their value over the last year.

That’s why Woolworths (ASX:WOW) and Coles Group (ASX:COL) are enduringly popular, although their growth is stymied as long as Aldi and Costco steal their lunch (and grog  … and laundry staples).

The best growth-yield candidates may not be lurking among the mid caps.

The bank hare versus the tech tortoise

Wilsons compares Technology One (ASX:TNE) with the National Australia Bank (ASX:NAB), which in 2019 both yielded around 5%.

Since 2014, a 100,000 investment in Technology One would have yielded more than $25,000 in divs, compared with just $6000 for a similar investment in the NAB.

Over that time Technology One shares have risen 14-fold and the company is now valued at $10 billion.

NAB shares have risen a sedate 24%.

Finding the Goldilocks stocks

Balancing the Goldilocks yield/growth/balance sheet equation, Wilsons derives 18 stocks from the top 300 that could make for just the right porridge.

Among them are Healthco Healthcare and Wellness REIT (ASX:HCW) (current-year gross yield around 8%), KFC franchisor Collins Foods (ASX:CKF) (4%),  stockfeed group Ridley Corporation (ASX:RIC) (5%) and insurance broker Steadfast (ASX:SDF) (4.7%).

Bell Potter likes leading footwear purveyor Accent Group (ASX:AX1) (6.5%), alternative asset manager Regal Partners (ASX:RPL) (4%) and Universal Store Holdings (ASX:UNI) (3.75%).

If stock picking sounds too hard, the quest for yield could start and end with boring old AFIC, which – unusually – trades at a 12% discount to pre-tax net tangible assets.

Originally published as Criterion: Dividends should not be the only game when investors seek better yields