A high dividend yield, a valuation that is too cheap, or low fees, especially in the brokerage area: to me, these are things that are often too good to be true. Or too true to be good. Usually there is always something to consider. Especially as an investor.
Today, let’s take a look at why that’s the case. Perhaps one can turn a blind eye to the brokers. But as an investor, you should always be skeptical about a high dividend yield or a cheap valuation.
High Dividend Yield: Too Good To Be True?
A high dividend yield offers an interesting entry level. As long as the stock and company perform steadily, there are stable dividend yields and a high level of passive income. Certain areas like real estate mutual funds or some stocks may be an exception. Very often, however, too high a dividend yield is too good to be true in hindsight.
Stable history and a sustainable payout rate of 7, 8 or even 9%? That is still possible. But if you look at the company, you will see difficulties. After all, the market is pricing in risk here. And, let’s be honest, if we take a closer look at stocks, there’s always a lot of risk involved in a stock getting a valuation like that. Sometimes it is a business model that is no longer growing or is cyclical. Or that it is affected by regulatory changes, as the tobacco industry is now.
To me, a disproportionately high dividend yield is always too good to be true. Now I’m more looking for what could go wrong. With the exception of real estate mutual funds, which invest for high dividends. Up to a little over 5%, the mix can still be conservative there.
Too Cheap Review – Too True to be Good
When the review is too cheap, I think it’s often too true to be good. If a stock has a low single-digit price-earnings ratio or has too high a dividend yield, I ask myself: where is the general market that doesn’t like it? Many stocks are priced accordingly at any time during a strong market phase. Only “problem children” show abnormalities.
The analysis of pure indicators rather reveals these problematic cases. Of course, one may wonder if they still have long-term potential. Too often, however, the corporate investment thesis suffers when a stock trades too cheaply. With classic and exchange contrarian stocks, you should at least know what you’re getting into.
Once again, the rating reflects the outlook for opportunities while acknowledging risks. When a stock is undervalued, it is often a true perception of the short-term view of the market. If that can be good in view of stronger problems? Hard. And of course it depends on the individual case.
Order Fees – Your Partner Wants to Earn Too
Order fees and trading are currently being democratized. New, young and dynamic brokers hardly charge commissions for trading stocks. Sometimes they are only one euro, in the USA there are first brokers who do not take any money. Admittedly, this is an interesting and very positive development.
For me, however, the downside is that the broker also has to make money and should ideally be my long-term business partner. I mean, if I don’t know how you make money, how long will you be there to help me?
It is true that development is good. I only hope that it also exists and therefore remains true. Investors should also consider this. We all want to pay as few business fees as possible. But our business partner also needs to make money somehow to continue giving us access.
High dividend yield, cheap valuation, low fees: too true to be good The article first appeared in The Motley Fool Germany.
Motley Fool Germany 2022