When it comes to dividend stocks, the general rule is buy and hold. So, a number of people believe that they need to stick with a dividend stock, even after a dividend cut. And, while abandoning a stock at the first sign of a small dividend cut may not be quite your style, any cut should provide you with food for thought.
Reasons a Dividend Cut Matters
When a company cuts its dividend, it matters. It’s true that a dividend aristocrat that stops raising its dividend each year, and falls off the Dividend Aristocrats list, can be a concern. But a company that cuts its dividend – or eliminates it altogether – is something different. This can be an indication that things are going to change, and maybe not for the better. Here are some things a dividend cut can presage:
- Losing market share: In some cases, a company that has to cut its dividend does so in response to the way its market share is shrinking. When that happens, that might mean that the company is losing ground – and may not be able to provide the kind of growth that will result in sustainable dividends in the future.
- Cash problems: A company that cuts its dividend often doesn’t have the cash to continue to give some of its profits to shareholders. This can mean that revenues have fallen (due to market conditions or to some other problem), or that expenses have risen. It can also be a sign of mismanagement. In any case, cash problems can be an indication that problems are on the way. A dividend cut can be indicative of problems.
Before you get too hung up on dividend cuts, though, consider the situation. Following the global financial crisis, almost all financial institutions cut their dividends. They were all on shaky ground, and cash was a real problem. However, now many banks are starting to raise dividends again – although it might be years before dividends recover. In some cases, a dividend cut is only temporary, and dividends are likely to be raised again. However, if you are relying on dividends for stable income, a stock that regular cycles through cutting and raising dividends is usually not your most reliable choice.
On the other hand, though, it is important to consider that there are companies out there that are managed so well, and have enough market share, revenue, and profitability that they can keep raising dividends, even during times of economic upheaval when other dividend stocks are faltering. (This quality is what makes the dividend aristocrats so attractive to many.)
Getting rid of a dividend stock is a serious decision. A dividend cut might be a sign that the company is in trouble, and it might be time to unload. However, before you decide to sell, it’s a good idea to consider your options, and make sure that you can replace the stock with another dividend stock. One that might provide you with better performance and more reliable dividends.