How the bear market has fattened dividend yields

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With many stocks near their lowest levels in five years or more, prices ought to at least be giving bargain-hunters a reason to window shop, if not to buy.

I wanted to show the accompanying chart just to give a sense of where dividend yields are now on some of the biggest U.S. stocks.

A stock’s dividend yield, of course, is the annual cash dividend payment divided by the current stock price. If the stock price drops, while the dividend holds steady, the yield on the stock goes up -- that is, for a new buyer.

If a company boosts its dividend over time, a shareholder’s effective yield also rises beyond what it was when the stock was purchased.

That’s the potential income advantage that stocks have over bonds. With a conventional bond, your interest payment stays the same for the life of the security.

The chart shows some of the highest-yielding stocks in the Standard & Poor’s 100 index, which tracks many of the largest stocks by market capitalization in the broader S&P 500 index.

Drug giant Pfizer Inc., for example, had a dividend yield of 7.6% as of Thursday, based on an annual dividend of $1.28 a share and a closing stock price of $16.73. That is more than double the average S&P 100 dividend yield of 3.5%, and compares with a 5% yield on the stock a year ago.

I’m not suggesting that these stocks are worth buying solely because of the dividend yields. As veteran investors know, a stock’s yield may be high for one of two reasons: the company’s expected earnings growth rate may be low, which means the market isn’t expecting much stock price appreciation; or the market may fear that the dividend will be cut.

No one can say with certainty that any or all of these dividends will be sustained, particularly if the economy plummets in 2009. But if the companies can maintain their payouts, and these stocks are even modestly higher in a year, investors’ ‘total’ returns -- price appreciation plus dividend income -- could easily be in double digits.