The dividend trap: why a record yield is a bad signal

Dividend yield is a fraction, and it has two ways of rising. The numerator can grow because the company raised its payout. The denominator can shrink because the shares are being sold off. A screener sorted by yield puts both candidates side by side and explains nothing.

The mechanics of the trap

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If the market expects profit to fall, it lowers the price in advance. The yield, computed from last year's payout and today's price, jumps — and attracts everyone who looks only at it. Six months later the payout is cut and the yield returns to normal. The price does not return to its previous level.

Three checks

First — the payout ratio. A payout exceeding profit is funded out of reserves or out of debt, and that cannot last.

Second — one-off items. Selling a large asset produces a one-time profit and a generous dividend once. Next year there will be no base for it.

Third — leverage. A covenant in a dividend policy triggers silently.