When looking for income, it's quite an easy task to simply scan a list and examine which stocks out there at current prices pay the highest yield.
However, there are risks to this approach and ultimately a good investment is only as good as the operating performance of the underlying business.
It must be remembered too that a dividend yield is merely a ratio of the amount of cash per share that's paid out to shareholders as a proportion of the current share price. Therefore, a high yield could be either because of good operating performance resulting in a boost to the dividend before the market has bid the share price up …
… or it could be because the share price has fallen, perhaps due to some recently announced bad news that shows either a deterioration in the company's fundamentals or an increase in risk.
Here are three stocks that pay good dividend yields but should nevertheless be left alone for now in my opinion:
Sydney Airport Holdings Ltd (ASX: SYD)
This is a truly wonderful business, however there are at least a couple of concerns on the horizon. These being the direction of interest rates and whether management will take up its option to develop and manage the Badgery's Creek airport out of western Sydney.
These concerns have resulted in the share price falling from $7.62 at last August's peak to just above $6 today.
Having paid out 31 cents to shareholders in 2016, the current yield is 5.1% (unfranked) which looks attractive when compared to cash rates.
Prospective investors though really need to consider what would happen if interest rates rose (Sydney Airport has a debt/equity ratio of 789%), or if it decides to not secure its rights to the Badgery's Creek airport. This could leave the door open to a competitor.
For now, I'd hold off on buying shares in this otherwise good business as the risks are still to the downside in my opinion.
AMP Limited (ASX: AMP)
AMP is a wealth management company specialising in the provision of financial advice, superannuation, life insurance and banking, so it's disappointing to see that this business has really struggled.
The current dividend yield is almost 5.4% (90% franked), but this hides the fact that the company's overall earnings-per-share over the last 10 years have been shrinking by almost 11% every year.
Sales growth is anaemic and dividends per share have fallen from 41 cents in 1999-2000 to an expected 28 cents this financial year.
Its takeover of AXA Asia Pacific back in 2011 simply hasn't paid off and I have little faith in management's ability to turn this ship around.
Quite simply, the financial risks are high due to its poor operating history, and I think there are better opportunities elsewhere for dividend-seeking investors.
Perpetual Limited (ASX: PPT)
This is another diversified financial services group, however it differs from AMP in that its three main divisions relate to funds management, private wealth management and corporate fiduciary services, so Perpetual and AMP aren't that similar.
What is similar to AMP though is a history of sub-par operating performance and poor shareholder returns.
The dividend yield today is a fully-franked 5.3%, but the company's sales, cash flow, earnings-per-share and dividends-per-share are all lower than they were back in 2006-07.
Similarly to AMP, this company is going to have to show a sustained improvement in its operating performance before I'd even consider recommending this to potential dividend-seeking investors.
Foolish takeaway
As much as I'm attracted to high yields, I'm not going to just throw my money into anything.
There's no point buying a 5.3% dividend yield today just to see the dividend slashed in future years. I don't know what the operating performance will be in the future with any of these three businesses, but the risks are there and I think there are better opportunities elsewhere.
