Why it could be a once-in-a-decade opportunity to buy top dividend shares

Jon Smith compares the historical price-to-earnings ratios and the rise in dividend yields for top dividend shares over the past decade.

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In my eyes, there are two components that make it a good time for me to buy dividend shares. Either the share price is at attractive levels, or the dividend per share payout is generous.

There will always be certain dividend stocks that have this attraction, but right now I feel that there are more opportunities than usual in this space.

Looking at the numbers

The first element is looking at the relative value of FTSE 100 and FTSE 250 stocks. For example, the price-to-earnings ratio (P/E) of the FTSE 100 currently is 10.6. This number by itself doesn’t mean a huge amount to me.

Yet I can also see that the average ratio over the past five years has been 15.2. Over the past decade, the average is 16.3. So currently, the ratio does look good value.

How does this number translate into practical terms? Well, it does indicate that — on average — a FTSE 100 stock is more undervalued now that it has been in the past. Granted, this is just the average and so I need to take this with a pinch of salt.

If I find a dividend stock that I like with a low P/E ratio, I can take advantage and buy it now. In the future, if the earnings per share increase, the dividend payments should follow suit. Or if the share price increases, I’ll be able to bank some extra profit if or when I come to sell the stock (much) further down the line.

Rising post-pandemic yields

The second point why I feel we’re in a unique situation is due to the resumption of companies focusing back on dividend policies. Over the pandemic, many firms either cut or completely stopped dividend payments to preserve cash flow. I get that this made sense. Yet businesses are now feeling more comfortable in paying out dividends, with us now in a much better place.

A combination of dividend payments and share price movements means that some large-cap stocks have attractive dividend yields on offer when comparing the past decade (excluding the brief spike during the market crash in March 2020).

Some examples that are close to (or are at decade high dividend yields) include Barclays (5.41%) and Mondi (4.78%) from the FTSE 100. From the FTSE 250, examples include Harbour Energy (7.67%) and Close Brothers (7.59%).

The other side of the coin

I do need to temper my enthusiasm in some respects with top dividend shares. If we do get an economic recovery into next year, the yields on various stocks could continue to rise. Or if we see higher interest rates push the UK into an economic slump, companies could again revert to cutting dividends to help protect the business.

In either case, my strategy could be negatively impacted.

Ultimately, I feel that the numbers do support my thinking that we’re in a rare position with dividend stocks at the moment.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

Jon Smith has no position in any of the shares mentioned. The Motley Fool UK has recommended Barclays Plc. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

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