What to Do
Like other financial measures, yield is most meaningful when compared with that of similar stocks in the same sector, or against averages for the sector or marketplace. In general, if stocks of company A are offering higher yields than company B (and every other measure seems comparable), then company A looks like the better bet. Bear in mind though that behind the higher yield—which results in cheaper stock—there may be factors like lower profits or a concerns about the company’s long term prospects.
Yield also enables investors to compare stocks with cash. For example, cash put into treasury bills or interest-bearing bank accounts—both considered safe investments—produces a yield that investors can compare with stocks, which tend to be much more risky.
Let’s assume you get 5% virtually risk free by investing in government bonds. The stocks being considered produced 7% last year, and are predicted to produce 6.5% in the coming year. The stocks look attractive, but you need to weigh up other factors like risk and long term growth in order to make a really informed choice.
What You Need to Know
- Remember that a company can decide not to pay dividends, or to decrease the amount, if they have a lean period (unlike banks, which will continue to pay interest, although they may be entitled to change the rate)—so investors cannot rely on stock yield.
- Nevertheless, assessing yield is often an essential part of the process of analyzing stocks. No other financial ratio gives information about cash returns—even EPS depends on the interpretation of accountants, while the dividends that a company has paid out are there for all to see.
Where to Learn More
Web Site:
U.S. Securities and Exchange Commission: www.sec.gov
