This S&P 500 Stock Yields 10.2%, But Is Too Good to Be True for Investors?
How safe is the dividend of one of the few names in the S&P boasting a double-digit yield?
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Dow Inc. DOW lost 3.4% in Monday’s trading. The stock has fallen 31% year to date, and 48% over the past twelve months. Last week, Dow traded at a five-year low.
The Midland, Michigan-based company produces plastics, materials, and chemicals. Due to Dow Inc.’s poor performance, it’s one of the few names in the S&P 500 that boasts a double-digit dividend yield.
That yield seems almost too good to be true. How safe is Dow’s dividend?
A Rough Patch, Or a Spiral?
First let’s take a look at Dow’s business. It’s not pretty.
Dow has blamed uncertainty over tariffs as a reason behind a decline in orders. This in turn led to plant closures and layoffs.
Dow is closing three plants in Europe due to weak demand, especially for building materials. The company announced layoffs of 1,500 employees in January. Additional layoffs of 800 were announced last week.
Dow has pointed a finger at a softening economy. First-quarter U.S. GDP (gross domestic product) declined by a greater-than-expected 0.5%, as an increase in imports and a decline in consumer spending weighed on the economy.
Payout Ratio
One metric to watch with any high-dividend stock is the payout ratio. This represents the portion of a company’s earnings that is paid out in dividends. In Dow’s case, the company's payout is over 6x greater than the amount the company is earning.
That figure is simply unsustainable. Based on its payout ratio, it seems likely that Dow will reduce its dividend. The only question is, how deeply will that dividend be cut?
Cash on Hand
If you’re buying Dow based on its 10.2% yield, it’s a gamble. Could that gamble pay off? After all, Dow does have a long dividend history.
It’s possible, but in addition to Dow’s payout ratio, I’m concerned about the company’s declining cash on hand, which is trending downward:
2022: $3.88 billion
2023: $2.99 billion
2024: $2.20 billion
2025: $1.46 billion
Let's Get Technical
Finally, let’s take a look at Dow’s chart. Not only is this stock in a bearish downtrend, Dow Inc. shares are falling on increasingly heavy volume (shaded yellow) over the past few weeks:
That heavy volume could be a sign of institutional selling. Perhaps institutional investors have already weighed the odds of a dividend reduction for Dow Inc., and decided that the risk is too great.
No matter how much you know about a stock, it's safe to assume that someone out there knows more than you do. There is a reason why institutions are selling this stock, despite its tempting yield. I believe Dow's 10.2% yield is a mirage that will soon disappear.
At the time of publication, Ponsi had no positions in any securities mentioned.
