Stock dividends provide investors with an income stream just as interest earned from bonds or notes is investment income. However, the yield from a bond is consistent and pretty easy to understand. The current yield of a stock is the result of several variables, including the dividend rate. Understand those variables and you will be able to select dividend stocks that fit your financial plans and goals.
For a stock -- and this applies to mutual funds, closed-end funds and exchange traded funds -- the dividend rate is the amount per share an investor receives when the dividend is paid. For example, a stock pays an annual dividend of $1 per share in four quarterly payments of 25 cents. The dividend rates are the 25 cents quarterly and the $1 annually. For U.S.-based, dividend-paying companies, quarterly dividends are the most common. However, some companies elect to pay dividends annually, semiannually or monthly. You can find the history of a stock's dividend payments in the investor relations page of the company's website.
The dividend yield of a stock is the annual dividend rate divided by the current share price. If a stock is at $25 and the annual dividend is $1, the stock yields 4 percent. The dividend rate used can be the total of dividends paid over the most recent four quarters or the recent quarterly dividend multiplied times four -- for a stock with quarterly distributions. Since share prices fluctuate, the current yield will change inversely as the share price moves up or down. When the share value goes up, the yield will fall even as the dividend rate remains constant. A lower share price results in a higher current yield.
The usefulness of the calculated dividend yield depends on the consistency of dividend payments by the company behind the stock. If the company pays dividends at a steady rate, the yield means something to investors. On the other hand, if the dividend paid varies significantly each quarter, the calculated yield may have no bearing on how much investors would earn from an investment in the stock. For example, the company Terra Nitrogen paid quarterly dividends ranging from $1.25 to $4.84 per share over a period of three years, with the amount changing dramatically from quarter to quarter.
If you are looking for dividend-paying stocks, the first stop should be the company's investor relations web pages to find the dividend history. Dividend stock choices include stocks with a high current yield and steady dividend rate, stocks with a lower yield and a history of increasing dividends and stocks with variable dividends that could provide a high total payout over time. Stocks that have very high current yields often have the yield due to a low share price because the market is predicting a dividend rate reduction. In many cases the dividend cut comes within the next quarter or two. Investors should understand that a company can change its dividend policy at any time.