A quick glance of Google Finance will tell you that shares of Rio Tinto Limited (ASX: RIO) and BHP Billiton Limited (ASX: BHP) trade on dividend yields of 4.9% and 5.5%, respectively.
What a quick glance won't tell you, however, is that their share prices are down 16% and 29% over the past 12 months.
Are they good dividend stocks?
Obviously, you don't need me to tell you its pointless buying a dividend stock yielding 5% only to watch it fall more than 15%.
Sure, you'll get a bi-annual dividend cheque, but generally, a falling share price is indicative of a struggling business. And all too often struggling businesses reduce or cut their dividend payouts entirely to boost their balance sheets.
I'm not suggesting Rio Tinto and BHP Billiton will cut their dividends entirely during the next year. However, I'd be willing to bet payouts are cut at some stage over the next five years.
Why? Because commodity prices are crumbling in the wake of oversupply and China's waning demand.
Oversupply is taking its toll on a majority of both Rio Tinto's and BHP Billiton's business lines.
Yes, given they have some of the lowest-cost operations, neither miner will go bust. However, falling prices are having a disastrous effect on returns.
For example, I wouldn't be surprised to see BHP Billiton's return on invested capital (ROIC) drop to around 12% next year, from 30% in 2011. Its return on equity will also fall heavily.
Rio Tinto is also expected to exhibit falling margins and profits. Analysts are currently forecasting a 43% fall in earnings per share over its full 2015 financial year, according to Morningstar's analyst consensus.
While Rio Tinto and BHP Billiton both generate 38%-39% of their revenue from Chinese customers, the latter is far more diversified by commodity.
As can be seen from the above chart, Rio Tinto is far more reliant upon iron ore than BHP Billiton at the revenue line. However, at the profit line, it is even more concerning (depending on your outlook for iron ore markets).
So if you consider the recent plunges in commodity prices, it's easy to see why analysts expect profits to slump in coming years.
Which is the worst dividend stock?
Despite being more diversified, analysts expect the profit per share of BHP Billiton to drop below last year's dividends per share, by 2016. In my opinion, that means its dividend is very likely to be cut in coming years. Rio, while an equally poor dividend stock idea, is expected to maintain its payout over the next two years.
However, with all the expected risks facing the businesses, and share prices that aren't cheap, why take the risk at all?
Why not buy a growing dividend stock without a significant risk of capital loss?
A better dividend stock idea is here…
