No, that wasn't a typo.
Alumina Limited (ASX: AWC) shares currently offer a dividend yield of 11.61%. Since the company's dividend payments have recently come with full franking credits, that equates to a 16.59% grossed-up dividend yield.
For some perspective, it would only take 3 years at that level for you to receive 50% of your investment returns in dividend payments, and roughly 6 to get your money back entirely.
Normally, a dividend yield would be considered substantial if it clocks over 5%.
At 6% you're normally looking at a 'top income stock' and at 7%, alarm bells would be ringing in dividend investors' ears. Even the ASX banks – long held up as the ultimate income shares – are today offering yields between 5 and 7%.
Yet Alumina is swinging big at 11.61%.
Sounds too good to be true, right? These are the kind of numbers that would normally scream 'dividend trap'.
Is Alumina a worthy investment?
Well… the answer is complicated. Yes, Alumina is offering a deal that raises eyebrows, to say the least. But from an accounting perspective, things actually don't look too dire for this company.
Alumina is a different kind of company that essentially operates a joint venture (known as Alcoa World Alumina and Chemicals, or AWAC) with US giant Alcoa Corporation, its only operation. This means it's about as pure a commodity play as you can get – it rides or dies on the back of the aluminium and alumina (the mineral, not the company) price.
In the last few years, these prices have been historically high, which in turn has enabled Alumina to pass on most of its profits as dividend distributions, which explains the stratospheric yield.
However, this also means that if there are any hiccups for this company – whether it be exchange rates, aluminium/alumina prices or operational issues – the dividend will be well and truly in the firing line. Think of this stock as a double-edged sword – and a very sharp one at that.
Remember, the market often prices dividend stocks according to the safety and reliability of yield. The high yield of Alumina shares tells me that the market is assigning a substantial risk/reward premium to this company's share price.
Foolish takeaway
If you're an investor who relies on dividend income to live, I think Alumina is a very high-risk stock to own. It might be a useful position to have in a broadly diversified income portfolio, but it's not one I think is a 'sure thing' by any means. Thus, I would still invest in Alumina shares for dividend income, but with the full expectation that the status quo will change in the not-too-distant future.
