Dividend yields are important. They relate to a company’s share price and demonstrate the percentage of the stock price that it pays out in dividends each year. Big yields can appear attractive, but normally they’re not sustainable.
Some years a company will pay its shareholders a bumper dividend after a particularly good year, but in the long run, the payout will return to normal. Sometimes the yield might be artificially high as the share price has been on a downward trajectory, reflecting investor concerns with the stock.
So, it can pay to be wary of big dividend yields.
But what should I make of Persimmon‘s current 16.5%? Is it sustainable and should I be buying this stock?
Persimmon’s dividend
Persimmon has the highest dividend yield on the FTSE 100 and it has actually gone up as the share price has gone down this year.
It has paid out 235p per share this year and is expected to pay 225p in 2023. So it’s forecast to fall, but not by much. In fact, that barely impacts the dividend yield.
The firm’s dividend coverage hasn’t been that strong in recent years. Last year the coverage ratio — the number of times a company can pay dividends to its shareholders using its net income — was 1.06. That’s pretty low and indicates that it only just had enough income to pay out.
In 2021, Persimmon also paid out 235p per share. But the business is performing slightly worse this year, so the coverage ratio could fall.
Outlook
Housebuilders have been registering record profits over the past year as property prices surged following the pandemic. However, the near-term outlook for the housing sector doesn’t look too good.
Interest rates are rising to their highest since 2008 and inflation is pushing up building costs. Margins are likely to be put under pressure, although the industry did make cost savings during the pandemic.
We could see demand for new homes wane. This may be the case if interest rates hit 4% in 2023 as some analysts have suggested.
Why I’m still bullish
Persimmon is currently trading around 20% below where it was at the height of the pandemic — a period when building sites were empty and millions of people lost their livelihoods. In fact, it hasn’t traded this low since 2014.
But I think this hides several positives. For one, the firm has a forward-sales rates of 90%. While new home searches might be falling, there’s a real backlog in demand following the pandemic.
Plus housing is cyclical industry. If we see downward pressure this autumn, I have full confidence that the industry will pick up again in 2023. After all, the UK has an acute shortage of housing.
Moreover, Persimmon has been less impacted than other housebuilders by the cladding crisis. The firm says recladding will cost it around £75m, or 10% of 2021 profits. That’s tiny compared with its peers.
The stock is also trading with a very low price-to-earnings ratio of just 5.8 — less than half the index average.
I think the current dividend might be unsustainable with economic forecasts in mind, but I’d still buy this stock today for long-term growth potential and a sizeable, but likely smaller, yield.
