Dividend yield is a measurement comparing a company’s stock price to the dividend it pays investors.
A stock’s dividend yield shows how much recurring income stockholders have gotten in the last year as a percentage of the current value of shares they own. Investors tend to look at dividend yield as a signal of whether it might be profitable to buy and hold a stock.
There are some limitations on what a dividend yield can tell you. For instance, rapid changes in a stock price can distort the dividend yield. And analyses of a company’s historical performance can only tell you so much about the future. Some investors prefer a measure called the dividend payout ratio to analyze what might happen going forward.
Regardless, if you’re evaluating stocks for income potential, you’ll want to understand how dividend yields work.
How to calculate dividend yield
There are many complicated calculations that investors have to make, but the dividend yield is pretty simple to calculate using public data sources or tools provided by your brokerage.
However, when calculating an annual dividend yield, you have to decide what period to look at. Here are some commonly used methods.
Prior year: Companies’ annual financial reports (available on their websites or through the U.S. Securities and Exchange Commission) generally include the total dividends paid to shareholders. However, if it’s been a while since the end of the year, you may want more recent data.
Trailing 12 months (TTM): Public companies also issue quarterly reports with dividend totals, so you can look at a series of those and come up with a more current total for the past year.
Quarterly dividend: If you want to use the latest data to calculate, you can multiply the most recent quarterly dividend total by four to get an estimated yearly total.
Dividend yield example
You’re unlikely to have to calculate the dividend yield yourself. There are plenty of investor resources that will crunch the numbers for you. But if you want to see the mathematics in action, here’s one example from General Electric — a storied American conglomerate that slashed its dividend amid a recent restructuring.
On May 25, 2023, General Electric’s stock was trading at about $101. The company has paid 32 cents per share in dividends over the past year. Therefore, the company’s dividend yield is calculated as 0.32 divided by 101 for a dividend yield that rounds up to 0.32%.
What is a good dividend yield?
There’s no one answer for what is a good dividend yield. Different companies have different priorities when it comes to distributing profits to shareholders. But if you’re looking for the highest available dividend yield, you can check out NerdWallet’s list of high-dividend stocks.
However, a good dividend yield alone doesn’t tell you everything about a stock’s investment potential or even what you can expect in terms of dividends in the future. There are some other factors you can consider, along with your own investment goals.
Limitations of dividend yield
Because dividend yield heavily depends on a company’s stock price, a rapid fall (or rise) in prices can distort the story the numbers tell.
Say you buy a stock for $100 and it pays out an annual dividend of $10. That’s a 10% annual dividend yield. Not bad, right?
But what if you found out that the stock had fallen from $150 in the past few days because the company had slashed plans for a highly anticipated product, potentially risking its profits and dividends going forward?
On paper, it would look like the stock’s dividend yield had risen dramatically — from around 6.5% — but not for reasons that investors might like.
Conversely, another thing companies can do to reward shareholders is buy back stock, a move that’s designed to raise share prices. If a company does that without raising the dividend, the yield could go down even as investors are smiling over the gains in their portfolios.
Dividend yield by sector
Companies in certain sectors of the economy tend to have higher dividends than others. That’s why it can help compare a company with its peers rather than the market.
Sectors, including utilities and natural resources, tend to have relatively high dividends. However, other areas of the economy, such as information technology, may provide lower dividends as companies reinvest profits more aggressively in search of growth.
REITs and dividends
REITs are in the business of managing portfolios of property investments, and they are required by law to issue dividends equal to at least 90% of their taxable income each year.
Your own investment goals
Dividends can help generate some income from your portfolio without selling stock. That may or may not be something important to you. Depending on your financial situation, dividends may create a tax liability.
Another factor to consider: Companies that give their profits back to shareholders choose to reward their financial backers rather than reinvesting more heavily in growth.
If you’re more interested in long-term growth than shorter-term income from your investments, dividends may not be so significant to you. However, it is worth noting that companies’ dividend decisions can affect their stock price — and therefore, your portfolio.
Dividend payout ratio
The dividend payout ratio is another way of looking at dividends, and in certain circumstances it may shed some light on whether a big dividend is sustainable. This is another simple calculation that shows dividend payouts as a percentage of a company’s total profits. To arrive at this number, divide the total amount of dividends paid in a period by net income from the same period.
If a company returns a big percentage of its profits in dividends — one common threshold is 80% — some investors may view that as a warning sign about the long-term viability of those payouts.
It’s up to you to decide how important dividends are to your investment strategy. Remember that dividends can involve some trade-offs, but if you’re evaluating a company for its dividend performance, the dividend yield is one tool you should keep handy.