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Advisors: Help your clients understand the pitfalls of chasing dividend yield and the upside of investing in a wide array of companies with strong fundamentals.
Investors searching for income may be irresistibly drawn to the prospect of the highest yielding stocks. But high-yielding stocks often fail to provide consistent income over time. A long-term equity income strategy focused on sustainable dividends can provide a lower risk way to stay invested through the market’s ups and downs. And as their advisor, you can lead clients down the right path so they can avoid the common impulse to chase yield.
How investors can approach equity income
- Focus on total return, not yield for the sake of yield.
Look for companies that can pay and grow dividends over time. Dividend yield doesn't provide information on the health of a company's cash flow or its balance sheet. These are important indicators of whether a company can pay and grow their dividends over time.
- Understand the wide spectrum of dividend stocks to choose from.
As capital allocation policies have changed, we’ve seen opportunities in all sectors. Investors can now build a diversified portfolio of income-oriented stocks in sectors outside of core interest-rate-sensitive sectors, such as technology.
- Historically, dividend-paying stocks have done better than non-dividend-payers in volatile markets.
Dividends are defensive in volatile markets, but only if the business model is sustainable. It’s important to limit your exposure to dividend stocks that are overly indebted, especially in times of equity drawdowns.
- Consider companies with strong fundamentals. They usually perform better in all environments.
Dividend-payers with healthy balance sheets have the potential to grow in a strong economy and may be less vulnerable in a weak economy. In this way, quality dividend-paying stocks can offer risk mitigation on the downside.