First of all I’d like to note that investing in shares only for dividends is a mistake. To be clear share market investing carries substantial risk, which is why returns are generally higher than fixed income or bond market investing for dividends.
To approach share market investing with your head in the sand about risk is not advisable and as such buying ‘blue chip’ businesses like Commonwealth Bank of Australia (ASX: CBA) or Telstra Corporation Ltd (ASX: TLS) hoping to escape risk in return for big dividends is a major but common mistake.
You should always approach share market investing with capital returns first and foremost in mind, after all it’s far better to buy a stock with no dividends that climbs 20% in value over a year. Than a business that pays a 5% yield plus full franking credits that falls 10% in value.
A lot of investors will psychologically anchor to dividends as “guaranteed” returns though and prefer to take a capital loss and income over growth.
This is a mistake though and there’s a better approach.
Before I cover that, I’ll point out another common personal finance mistake made commonly today.
The RBA’s cash rate is now at 1%. Cash is dead!
Ask anyone who’s lived in the UK or Europe over the last 10 years who kept their cash in the bank.
They will scream down the walls to tell you that leaving too much cash in the bank at ultra-low interest rates is a catastrophic personal finance mistake.
Over time the value of your money will go backwards as inflation beats the diabolical levels of income paid by banks on saving accounts. You might not realise it now, but 2 to 3 years down the line, you sure will.
So what’s an investor to do?
I’d suggest accepting that share market investing involves substantial risk and not trying to escape it by buying “defensive’ shares.
Generally though it should be understood that with the yield-hunt now back with gusto, it’s very tough to find good quality businesses on sensible valuations relative to their outlooks that yield over 4% before franking credits.
So you need to be very careful about what you buy.
Two businesses with big fully franked dividend yields I’ve covered recently are IT hardware distributor Dicker Data Ltd (ASX: DDR) and Accent Group Ltd (ASX: Ax1). I even bought Accent shares myself back on June 17, 2019, although unfortunately since then the price has raced ahead to $1.55. Still it should still offer an estimated yield around 5.5% plus full franking credits over the next 12 months.
Dicker Data could be estimated to offer a yield around 4.2% plus full franking credits over the next 12 months at a $5.30 share price.
Of course both these businesses come with considerable risk as you’re buying a physical share of companies vulnerable to market forces.
However, it’s better to front this and look for income and growth, rather than try to escape it and buy businesses like the big banks or Telstra that may face a tough 12 months ahead.
If I were obstinate in my conservatism or well into retirement and wanted a business with a big yield and more defensive cash flows something like Westfield operator Scentre Group Ltd (ASX: SCG) would tick the boxes. I expect it could provide reasonable total returns with less risk than Accent Group or Dicker Data over the years ahead.
While on a risk-adjusted basis, I also think Macquarie Group Ltd (ASX: MQG) is a better income bet than the banks.
On dividends as we saw with Telstra slashing its dividend over the past 18 months, retiree or ‘mum and dad’ investors tend to underestimate the effect dividend cuts will have on their total returns.
While an unusually high yield on blue-chip favourites is often a warning sign dividend cuts are coming, with more sophisticated investors steering clear of these businesses. Personally, I expect Telstra and the banks have dividend cuts ahead.
Of course all this should not be taken as investment advice and for full disclosure as an owner of Accent, Dicker Data and Macquarie shares I have a bias towards them.
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You can find Tom on Twitter @tommyr345
The Motley Fool Australia owns shares of and has recommended Dicker Data Limited and Macquarie Group Limited. The Motley Fool Australia has recommended Accent Group and Scentre Group. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.