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Understanding Dividend Yield vs. Yield on Cost

Many investors know dividend yield — the annual dividend payment divided by the current stock price — as a key metric for income-focused stocks. Mature companies with reliable free cash flow often distribute a portion as dividends. These payers have historically been steady, lower-growth businesses, yet their consistent payouts have helped them beat broader market returns over time.

Fewer investors are familiar with Yield on Cost (YOC), which measures the dividend yield based on the original purchase price. For stocks with flat dividends, yield and YOC remain similar. But for dividend growth companies — those that steadily raise payouts — YOC increases over time as dividends climb alongside growing free cash flow.

Historical Edge: Dividend Growth Outperforms High Yield

Data shows dividend growth strategies have delivered stronger results long-term. For example, from May 2005 to December 2023, the S&P 500 Dividend Aristocrats Index (representing consistent dividend increasers) outperformed the Dow Jones U.S. Select Dividend Index (focused on high yield). These index comparisons are illustrative; past performance isn't a guarantee of future results, and indexes don't include fees or allow direct investment.

Real-World Comparison: Visa (Dividend Grower) vs. Verizon (High Yield)

Investors often choose between immediate high income and future growth. High-yield stocks provide attractive starting payouts, but dividend growth stocks excel over extended periods through rising income, capital gains, and reduced volatility.

Consider Visa Inc. (a dividend grower) versus Verizon Communications Inc. (a high-yield example), starting from March 2008 (Visa’s earliest post-IPO data point). Visa began with a tiny 0.2% yield compared to Verizon’s 5.6%. Yet Visa’s consistent increases pushed its YOC past Verizon’s by 2020. By late 2023, Visa’s YOC reached about 12%, far exceeding Verizon’s 7.8%.

Key Benefits of Dividend Growth Stocks

Dividend growth companies typically boast solid fundamentals: strong profitability, stable cash flows, and disciplined management. Raising dividends year after year — even through economic cycles — signals resilience and commitment.

Visa exemplifies this, growing its dividend from $0.10 to $2.08 over 15 years (a ~22% compound annual rate). Reinvesting those growing payments compounds wealth significantly. Plus, rising dividends act as an inflation hedge, preserving purchasing power — ideal for retirees or those seeking reliable lifestyle support.

Risks of High-Yield Stocks vs. Stability of Growth Stocks

High yields often stem from falling stock prices or aggressive financial tactics, increasing volatility and risk. These stocks frequently have elevated payout ratios (dividends consuming much of free cash flow) or rely on debt, heightening chances of cuts in tough times — which can slash income and trigger sharp price drops.

Dividend growth stocks, by contrast, usually feature lower initial yields but higher growth potential, leading to superior YOC over time. They maintain conservative payout ratios, robust balance sheets, and low debt — giving flexibility to sustain (and raise) dividends even in downturns. This stability translates to better risk-adjusted returns and a growing income stream.

Evidence from U.S. and Canadian Markets (16-Year Period Ending March 2024)

In the U.S., Visa’s 21% dividend growth far outpaced Verizon’s 3%, driving better total returns (over 15% advantage) and risk-adjusted performance.

In Canada, Alimentation Couche-Tard (lower initial yield) outperformed BCE, surpassing it by more than 18% in total return and 11% in risk-adjusted return over the same 16 years. Assumptions: initial investment on March 15, 2008; no additional purchases; cost basis equals starting price.

Why Dividend Growth Wins for Long-Term Investors

Dividend yield offers a snapshot of current income potential, but YOC reveals true long-term income expansion. Dividend growth stocks combine escalating payouts, capital appreciation, and lower risk — making them ideal for patient investors aiming to maximize total returns.

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