Finding dividend income this year has been particularly challenging. Some businesses such as Royal Dutch Shell paid out dividends to investors for decades, only to see it heavily cut earlier this year. Shell is just one example, there are plenty of others within the FTSE 100 that have done the same in order to aid cash flow as consumer demand has slowed. Despite this, there remain FTSE 100 stocks with attractive dividend yields that are still being paid.
As a case in point, take a look at Vodafone (LSE: VOD). The telecoms giant has a larger global presence than some are aware of. It has extensive operations in both Africa and Asia, as well as its business here in the UK. With a dividend yield currently sitting at 7.34%, I think it’s worth a buy.
Why the high dividend yield?
Over the past decade, the dividend yield for Vodafone has averaged around 5%. In the past couple of years, this has been increasing, partly due to the falling share price (the FTSE 100 stock has slumped around 25% this year alone). This boosts the dividend yield because the share price is the denominator when calculating that yield.
Income investors had already been disappointed by Vodafone in the last year, when a near-10% dividend yield was reduced and the payout was cut by 40%.
And a cut is always a risk. In fact, any FTSE 100 stock with a dividend yield above 10% should sound warning bells for investors in my opinion. At a time when the base rate of interest is at 0.1%, there simply isn’t the need for that big a premium from a dividend-paying firm.
With a yield above 7%, investors do still need to be cautious, but I don’t think we’re going to see another payout cut or cancellation in the short term.
Checking the fundamentals
Full-year results in May confirmed that the dividend for this year would be paid. If the board was concerned about cash flow, that would have been the perfect time to reduce the dividend, but it wasn’t. Free cash flow actually increased by over 10% to €4.9bn.
Another reason why the dividend is likely to stay is that the firm needs to maintain a strong market capitalisation. This is so that Vodafone can easily raise money if it needs to from the equity markets. Current debt levels stand at an eye-watering €42.2bn.
A firm may not want a very high share price as this hampers the price-to-earnings ratio, but at the same time, it wants a solid share price in order to make other financial ratios look attractive to lenders. By offering an attractive dividend yield, income investors will likely buy into the stock. This won’t stop the share price from falling completely, but will help to stem the slump.
Risk versus reward
I feel that a FTSE 100 stock with a dividend yield at 7% is OK on the risk/reward balance scale. Vodafone isn’t a completely safe business, as shown by the large debt levels. Yet if you want income at a safe firm, then you’re looking at dividend yields around 2%-4%. So from my angle, investing in Vodafone is a risk worth taking.
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jonathansmith1 has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. 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.