3 Ways to Yield Wealth From Dividends

Sorry to disappoint you, Fools: However much you may imagine it, dividend checks don't make that ka-ching sound when they land in your account. There's no jackpot siren or shower of rainbow confetti, either.

High-yielding stocks are more than just the sum of their distributions. No two dividends -- or dividend-paying companies -- are alike, so try to avoid any romanticized dreams of celebration.

You can get rich from dividends. It's just not as easy as you think. Then again, it's not as hard as you think, either. I've got three tips to make you a better income investor.

1. Don't chase yields
There's nothing as ego-bruising as snapping up a stock only because of its high yield. A dividend is only as secure as the company's ability to pay its declared distributions.

Income investors like to watch their companies' payout ratios, making sure that each investment is earning more than enough to cover its regular dividend. But sometimes, the bottom line can turn sour in a hurry. Companies such as television station operator Belo (NYSE: BLC) and insurer XL Capital (NYSE: XL) seemed to have attractive yields until slashing their payouts earlier this week.

Shareholders who held on going into this week's markdowns, figuring that the higher yields would save the day, learned the cruel lesson that unsustainable yields can get slashed.

2. Take a hike with the hikers
Every Monday, I profile four stocks that have increased their dividends during the previous week. Typically, these increases send an upbeat message that a company is comfortable enough to part with a few more of its greenbacks.

Watch for companies that regularly raise their dividends. When I see a company like industrial toolmaker Stanley Works (NYSE: SWK) -- that has boosted its shareowner distributions in each of the past 41 years -- I get excited. When I see a steel producer like Nucor (NYSE: NUC) buck the cyclical swings to generate 35 consecutive years of increases, I get pumped. Even a troubled sector like financial services can deliver a head-turner like Wells Fargo (NYSE: WFC) with a 21-year-streak going.

3. Avoid the one-time dividends
There are several reasons why companies issue huge one-time distributions, but none of them impress me. Sometimes a hefty payout will leave a company saddled with debt. Other times it is simply a matter of returning money to shareholders in a hurry.

Those temporary yields lie. Wynn (Nasdaq: WYNN) has issued a pair of $6 dividends, but the casino operator's stock has still shed nearly half of its value since peaking last October.

One-time outlays aren't always disastrous. CME Group (NYSE: CME) declared a $5 one-time bounty last month, and the trading exchange specialist is none the worse for the wear. However, that money could always come in handy given the acquisitive state of CME's industry.

Because there's no free lunch, these huge disbursements result in big tax bills for you, and big ex-dividend price adjustments for the stocks. Unless you're comfortable assessing what a company and its balance sheet will look like after a one-time dividend hit, it's best to stay away.

Add it up
The moral of this story should be familiar: Even yield-hungry investors should remember to buy companies, not dividends. Readers of our Income Investor newsletter will be the first to tell you that. Our newsletter's monthly stock recommendations can't just have attractive yields; they must have attractive prospects, too.

After all, what good is a dividend if the share price falls by more than the sum of your dividend checks? With a little Foolish savvy and a few careful choices, dividend investing can be the perfect strategy for investors who want real profits, rather than imaginary celebrations.

If you need a few of our best dividend stocks for new money, try Motley Fool Income Investor free for 30 days.

Copyright © 2008 Universal Press Syndicate.