Why dividend yields are more important than ever

Dividend yields from FTSE 100 stocks in the past few years have been great. And I think they’re super important in uncertain times like today.

I’d say we really shouldn’t try to judge the value of our investments based on share prices. Did anyone famous ever say that? They should do.

Sell our business?

Total returns matter. And they’re made up of share price gains and dividends. So don’t they both contribute to the valuation of our shares?

In the long run, yes. But on a short-term basis, using share prices can lead us astray. They’re based on… fear, hype, day-to-day news… and all kinds of irrational influences.

But dividends are cold hard cash. Cash doesn’t change with today’s fears, or tomorrow’s hopes.

What if we own some shares paying good dividends? And we don’t plan to sell for at least another 10 years? Should we care what they’re priced at today?

Why now?

So why do I say dividend yields are more important right now?

I see worse disjoint between company share prices and long-term valuation than I have for a long time. That’s no surprise when people are under pressure and worried about the future.

But it makes me sad to see people dumping their ownerships of quality companies for silly low prices.

Let’s pick a bank stock as an example. I choose that sector because I think it offers some super low valuations now, and good dividends.

Cheap stock

I’ll go for NatWest Group (LSE: NWG), with its nice fat 6.8% dividend yield.

I see a recent share price of around 250p. Does that fairly value the bank?

Well, I see NatWest shares were at just a bit over 200p not long ago. Is it a nearly 25% better company now than it was just a few weeks ago?

Over that same short timescale, the forecast dividend is unmoved at 17p per share.

Keep the cash

What if we buy NatWest shares today, and pocket the dividend cash?

If the dividend stays the same, we could get our money back in less than 15 years. And still own the shares.

We could double our investment in that time. Is that worth giving up at today’s share price?

Reinvest

It gets better if we buy more shares each year with the cash. Then, we could double our money in only 11 years, even if the share price gains nothing.

Saying that, I can understand why people might want to sell bank shares, including NatWest, right now.

These are risky times, and there could well be worse to come for the sector. And I can see interest rate uncertainty holding the banks back for some time yet.

Dealing with it

But I think the best way to deal with it is to keep an eye on their dividend yields. Watch to see the earnings are there to cover them. And check cash flow and liquidity are strong enough.

As long as that all looks good, the share price can do whatever it likes.

The post Why dividend yields are more important than ever appeared first on The Motley Fool UK.

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• The government’s selling some of its NatWest shares. Should I buy for passive income?
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Alan Oscroft has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.