Like many investors, I always appreciate the passive income streams I earn by owning dividend shares.
It is hard to remember a sustained recent period when it has been more lucrative to buy British dividend shares. Usually, percentage dividend yields in the high single digits are more commonly associated with obscure companies, or risky corners of the stock market.
High-yield UK shares
No share is without risk, of course. But what is striking about the current market is that even some well-known FTSE 100 shares offer yields that seem almost too good to be true.
Over here we have M&G with its 9.7% yield – and a further dividend increase announced this week. Over there is Phoenix, also on 9.7% — and with its own dividend rise unveiled in the past few days. Even that duo do not match the yield at Vodafone, offering 9.8%.
But that is not all. British American Tobacco yields 8.5%. That is slightly less than the 8.6% offered by Legal & General.
These are all blue-chip companies with sizeable, proven businesses. I own all of these dividend shares except Phoenix.
I reckon they are real bargains – but could I be wrong?
Hunting for quality businesses
It can be easy as an investor to get carried away thinking about yield. But yield on its own tells us nothing about a share, or whether it will turn out to be a rewarding investment over the long term.
So I always look at the quality of a business long before considering its yield.
Does it have a proven business model? Is there a large possible market for its products or services? Does it have some competitive advantage that can help it capture and retain a large part of that market at profitable pricing levels?
I also dig into things like a company’s balance sheet.
The debt at British American Tobacco and Vodafone is something that concerns me about both of them. Paying down debt can eat into a company’s ability to sustain dividends. Vodafone has previously cut its dividend, in part because of its debt load.
Bargains or value traps?
In the long term, I would hope that quality businesses improve in value.
But over the past five years, Vodafone has lost 53% of its value, British American Tobacco 25%, Phoenix 19%, and Legal & General 13%.
M&G is slightly less than four years old as an independent listed company, but its share price has shrunk 10% during that time.
Past performance is not an indicator of what will happen in future. Indeed, these cheaper prices work to my advantage if I want to buy such dividend shares and hold them.
That works for me as a long-term investor. But if I suddenly needed to sell shares that are deep in the red – like Vodafone over the past five years – I could end up losing more than I would have earned in dividends during those years.
That is why although I think some high-yield dividend shares really could turn out to be screaming bargains, I am not letting those yields distract me. Instead, my eye remains firmly on the prize… finding great companies selling for less than they are worth.
