Dividend Yield

If you buy a studio apartment or a shop and rent it out, rent arrives every month like clockwork. In the same way, when you buy and hold a company's stock, the company hands over part of the profit it earned during the year to its shareholders in cash. This profit shared out among shareholders is called a dividend.

But when you hear dividend news, a bare amount like "this company pays 1,000 won per share" doesn't tell you whether the stock is really a good one. Buying a 10,000 won stock and getting 1,000 won is a completely different deal, in terms of money invested, from buying a 100,000 won stock and getting 1,000 won.

Dividend yield is the number calculated so you can compare, at a glance, how many percent the dividend is of the price at which the stock trades in the market today. It is easiest to think of it as the yearly interest rate you can expect on the price you pay now.

For example, if a 20,000 won stock pays a 1,000 won dividend at year-end, the dividend yield is 5 percent. If the bank deposit rate is 3 percent a year, the number alone beats the deposit interest. But unlike a deposit, a stock does not guarantee your principal, and its dividend can shrink.

Beginner investors most often fall for one illusion when they look at dividend yield. It comes from the structure of the formula: the dividend per share goes on top, and the current stock price goes on the bottom.

Suppose a company pays the same dividend as last year, but its stock price is cut in half. Because the bottom number, the price, got smaller, the dividend yield shown on your calculator jumps to double. On the surface, it looks like a wonderful stock promising huge returns.

But a crashing price is very likely a warning sign that the company's business has run into serious trouble or that its future growth has become unclear. A company whose results have gotten worse may soon cut its dividend, or even stop paying it altogether.

Cases like this, which are hard to judge from the surface yield number alone, are called a high-dividend trap. The same number means different things depending on why the price fell and whether the company keeps making profits.

To be more precise, the dividend yield you see every day on portal sites and brokerage apps is mostly calculated from the dividend the company actually paid last year. This is called the trailing dividend yield.

But the money you will actually receive in your account if you buy the stock today is not the past, which is already over. It is the future dividend the company will earn and pay out from now on. If the company's results plunge this year, the attractive yield on your screen can vanish like a mirage.

That is why careful investors check not only the dividend yield but also the dividend payout ratio, which shows how much of the company's net profit was paid out as dividends. Only a healthy company that pays out a reasonable share of its profit can keep paying stable dividends going forward.

Also, dividend yield is measured before tax. In Korea, when a dividend is paid into your account, dividend income tax (15.4 percent including local income tax) is withheld at source, so the return you actually keep is lower than the number shown on the screen.