The Risks Of Focusing Too Much On Dividend Yields

This week I read an interesting article, which advised investors to consider purchasing the dividend champions that currently offer a higher dividend yield than their average 1-year or 5-year dividend yield. According to the article, stocks that now offer a higher dividend yield than their average historical yield are likely to turn out to be bargains. While the article was very well-written and made it to the TOP 10 of the site, I will analyze why it is too risky to follow this strategy. To be fair, the author provided some caveats on his strategy and mentioned the importance of a due diligence before the purchase of these stocks.
To provide a perspective for the risks of this mindset, Target (NYSE: TGT) is a dividend aristocrat, which has grown its dividend for 48 consecutive years. Its average dividend yield during the last 12 months is 3.29% but it is now offering a much higher, 4.18% yield. Therefore, according to the above mentioned article, the stock should be viewed as potentially attractive. However, this way of thinking involves great risks.
More specifically, the market does not offer superior yields for free. This is particularly true in the current environment of almost record-low yields. Therefore, the reason for the relatively high dividend yield of Target is that the stock has plunged 18% since its latest earnings report. The latter proved particularly disappointing, as the company missed the analysts' estimates while its margins pronouncedly shrank. Even... Read more