Analysis of Dividend Yield as an Investment Metric
In this piece, we will dissect the roller-coaster journey of Medical Properties Trust (NYSE:MPW) stock to underscore the perils of relying solely on dividend yields when evaluating investment prospects.
Every weekday morning, I dive into the financial analyses of 10 stocks even before my first cup of coffee. Then, during the day, I scrutinize additional stocks that pique the interest of my readers. With a portfolio of around 600 stocks, I immerse myself in various investment strategies to marry them with the most apt techniques for forecasting their future values. My frequent interactions with investors and exposure to diverse stocks have unveiled patterns that often go unnoticed. One such pattern is the tendency of investors to kick off their stock evaluations by fixating on a stock’s dividend yield.
Why is this approach hazardous? Using the dividend yield as a primary indicator and adhering to a popular investing strategy, such as dividend investing, invariably leads to subpar long-term returns. Savvy investors seeking lucrative returns ought to steer clear of these pitfalls.
For the past two years, Medical Properties Trust has consistently hogged the limelight on Seeking Alpha’s trending page despite being a relatively obscure entity in the stock market. To put this into perspective, MPW’s market cap was only half the size of Lincoln National (LNC), the smallest business by market cap in the S&P 500 in 2023 before its removal from the index.
During this period, MPW’s stock price exhibited similar trends to the diminutive LNC. Yet, MPW has garnered ten times the number of articles on Seeking Alpha compared to LNC over the past three years. Moreover, MPW boasts over 82,000 followers on SA, while LNC hovers around 15,000. What accounts for this glaring popularity gap, especially considering MPW has never secured a spot in the S&P 500 index? The main driver appears to be MPW’s dividend yield, which has consistently been 2 to 4 times higher than that of LNC.
In essence, had investors not fixated on MPW’s dividend yield, the stock would have likely faded into relative obscurity alongside numerous other failed stocks over the past few years.
The extraordinary attention on MPW is not an isolated case. T-Mobile’s (TMUS) ticker has approximately 70,000 followers, while AT&T (T) and Verizon (VZ) command 567,000 and 358,000 followers, respectively. The appeal of AT&T and Verizon, both historically high-yielders, is evident, whereas T-Mobile, which lacks a dividend, trails behind. Let’s delve into their overall stock performance in the past decade:
Over the last decade, T and VZ have delivered returns roughly in line with inflation, equating to stagnant real returns for investors. In contrast, their competitor TMUS generated returns exceeding tenfold. The rationale for the sizable followings of T and VZ, relative to TMUS, can be attributed to the former’s higher-than-average dividend yields.
Culprit: Placing Emphasis on Dividend Yield
In any prudent stock or business analysis, dividends should figure as one of the final considerations. Dividends emanate from earnings and are not additional to earnings. Starting an evaluation or screening of a stock with its dividend yield, dividend record, or dividend growth constitutes a grave error.
Why is this erroneous?
There are two critical reasons. Firstly, dividends are derived from earnings and cash flows. A company must first generate profits before it can dispense dividends. Typically, it is optimal for a company to reinvest its earnings in the existing business to fuel growth. Should this prove unfeasible, the company can channel its earnings into debt reduction, expansion through acquisitions, stock buybacks, or dividends.
Berkshire Hathaway (BRK.A) (BRK.B) stands as a testament to significant growth sans dividend payments. Over the long term, the market places little emphasis on dividends. Otherwise, Berkshire Hathaway wouldn’t warrant its current lofty valuation.