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August 29, 2011

If you pick individual stocks, look for more than dividends.

Recently the media has been advocating the selection of stocks that pay dividends.  Dividend paying stocks may only be appropriate for part of your portfolio, if at all.  There are many factors that will determine what portion of your portfolio should be dividend-paying stocks.  You may use the dividends in evaluating individual stocks. 
When selecting stocks, you must look deeper than it dividends. The dividends should only be one factor in selecting investments. 
When looking at the dividends look at more than the yield (dividend divided by stock price).  Consider the percentage of the earnings paid out as dividends.  If the payout ratio is too high, it may handicap the corporation’s sustainability and growth.  Compare the payout ratio to that of its competitors.  Determine what the company’s history of its payouts has been.  See if the payouts have been consistent.  Examine the stability of the dividend payout.  You want to know the companies’ dividend policy.  Be aware of how the dividend payout fluctuates with it annual income.  Another factor is how much of the dividends are regular dividends versus special dividends. 
The above inquiries will help you understand the strength of the company and the reliability of it dividends.  You should not ignore these factors.  You should balance the dividend with your expectation of the future value of the stock.  This is not intended as a complete discussion of how to pick stocks.  The point is that you should not ignore all the other factors.
A related discussion for another time is whether you should be using mutual funds and or exchange traded funds rather than investing in individual securities.   

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