Dividend-Seekers: Be Wary of High-Yielding Stocks

VIDEO: Thomas Forsha, subadvisor to Aviva Investors, discusses whether we're approaching a dividend bubble, how to seek companies that will grow dividends, and why he likes small-caps for high yield

Holly Cook 22 May, 2012 | 9:30AM
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Video Transcript
Holly Cook: At the 2012 Morningstar Investment Conference, I caught up with Thomas Forsha. He's from River Road Asset Management, which sub-advises Aviva Investors. I asked him about dividend investing, what some of his top tips are for investors looking for dividend stocks and why he likes small-caps in this area. Let's see what he had to say.

Cook: Well Thomas thank you very much for joining us.

Thomas Forsha: Thanks for having me.

Cook: So, you've just been talking about dividends. You mentioned that it's a hot topic at the moment. Should those investors who are looking for dividends, should they be worried? Because when everyone is talking about something, it becomes a hot topic, there's normally a reason to take a step back.

Forsha: Yeah, a little bit. I mean we worry about it a little bit as well. But what we found is most of the stress is in the highest yielding company. So as long as you're not going into 8%, 9%, 10% yielders, you're probably perfectly fine. I mean down in the Procter & Gambles and the Johnson & Johnsons of the world --- 3.5%, 4% yield -- that's perfectly safe from our view.

Cook: So, can you give us a couple of the key factors that you need to look for when you're actually trying to find a  dividend stock?

Forsha: Yeah. You need to make sure that they've consistently grown it over time. So you're looking for a firm that didn't necessarily just launch a dividend last week. You want one that's demonstrated over the last 10 to 15 years that they are committed to that dividend going forward. You want to make sure that they've actually got the cash to handle it. So, is this a profitable firm? Do they generate cash that they can use to support that dividend? You don't want to get caught in a situation where a company is leveraging up their balance sheet in order to pay a dividend, that doesn't typically last very long.

Cook: You also mentioned about small-cap stocks and how they have a tendency to be those higher yielding stocks and some of the reasons for that. Can you explain a bit about that?

Forsha: Yeah, it's amazing. You look at the US universe, most people think it's large mature companies that are producing attractive dividends. In fact that's not just the case. You go down you look at small and mid-cap companies, there's more of them yielding significant amounts and their yield is higher than large-cap. We really focused on that space over time and done very well with it.

One of the reasons why we think this is, is that the companies are already mature themselves. You don't have to be large to be mature. They're mature, they've got great stable cash flows, just more of a niche business and they typically have large inside owners that are more focused on taking capital out of the firm and paying themselves as dividends instead of necessarily the stock options, or share repurchases, that large companies do. We think that really aligns them very nicely with our investors.

Cook: So there's a few useful tips if you're looking for dividend stocks. For a summary of these tips, take a look at our article and the related links below.

The information contained within is for educational and informational purposes ONLY. It is not intended nor should it be considered an invitation or inducement to buy or sell a security or securities noted within nor should it be viewed as a communication intended to persuade or incite you to buy or sell security or securities noted within. Any commentary provided is the opinion of the author and should not be considered a personalised recommendation. The information contained within should not be a person's sole basis for making an investment decision. Please contact your financial professional before making an investment decision.

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Holly Cook

Holly Cook  is Manager, Morningstar EMEA Websites

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