Episode 1: How to Know When a Stock is Worth Buying

You’ve heard the phrase “buy low and sell high”, this episode shows you exactly how to figure out if a stock is priced low or high. Focus on dividend stocks that are priced low and ignore the ones that are priced high.

In this episode you’ll learn how to quickly determine if a dividend stock is undervalued (priced low) or overvalued (priced high). Learn how to figure out when a dividend stock is worth buying. Also covered in this podcast:

• What is a stock?

• What is a dividend?

• What is dividend yield?

Speaker 1 (00:00):
When it comes to investing, you’ve all heard the phrase buy low and sell high. How do you know when a stock is priced low and how do you know when it’s priced high? In this video, I’m going to show you exactly how to figure out when a stock is undervalued or priced low and when it’s priced high or overvalued. Hi, my name is Kanwal Sarai and welcome to the Simply Investing Dividend Podcast episode number one. Join me on this journey as we watch Jack and Jill navigate the world of investing. In this episode, they’re going to look at two stocks, Walgreens and Coca-Cola. And we’re going to help them figure out which stock is undervalued or priced low and which stock is overvalued. A stock or share represents ownership in a company. So for example, Coca-Cola has a little over 4.3 billion shares outstanding. If you were to buy all of the shares, you would own the entire company.

(01:07):
In this example, if Jill was going to buy just five, 10, or 20 shares, she would still be considered part owner of the company. And as part owner of the company, you’re entitled to share in the profits of the company. And those are known as dividends. Dividends are amazing because you are getting paid to own shares or stock in a company. So as long as you hold onto those shares, the stock price can go up and down. You are still going to get paid dividends as long as the company continues to pay the dividend. So it’s essentially, it is cash that’s deposited automatically into your trading account. Whenever the dividends come in, the money goes into your trading account. So let’s take a look at this example. So if Jill was interested in this company and the company is paying a dividend of $1 per share and Jill owns 1,000 shares, she’ll receive $1,000 every year for as long as she own those shares and as long as the company continues to pay the $1 dividend.

(02:16):
Now, Jill can spend those dividends if she wishes or she can reinvest them. Okay? So that’s entirely up to you. Like I said, the dividends are cash that’s paid to you directly for being a shareholder. Now I said before, the stock price can go up and down, but as long as you own those shares, and in this example, as long as the company is paying $1 a dividend per share, and in this case, Jill owns 1,000 shares, she will receive $1,000 every year. Okay. So she’s interested in buying some shares or stocks in Coca-Cola. Okay? So she can go to … And you can do the same thing. You can go to any website that’s going to give you stock quotes or stock prices. So you can go to Yahoo Finance and to send money, Google Finance, any number of sites. So in this example, Jill is going to go to Yahoo Finance.

(03:10):
She’s going to type in Coca-Cola or the stock symbol is KO, so you can type in KO. And then she’s going to see this. So you’ll see the stock price is there at the top left-hand corner, and there’s a whole bunch of other numbers on the screen. Now, she’s interested in the dividend, right? So in this example, you can see that as of today, as of this recording, Coca-Cola is paying a forward dividend of $1.76 a share. Okay? So this is an annual dividend. So you have to hold onto the shares for the whole year, and then you would receive $1.76 per share. And again, for as long as you own those shares and as long as Coca-Cola continues to pay the dividend, you will get that cash.

(03:57):
Jack, on the other hand, is interested in Tesla. So he’s going to go to Yahoo Finance in this example, search for Tesla and look at the dividend information here. So now you can see that Tesla does not pay a dividend. Now, there’s nothing wrong with that. There’s a lot of companies out there like Facebook and Twitter and lots of other companies that don’t pay any dividends. So in the case of Jack, if he’s going to invest money and buy shares in Tesla, he’s not going to get a dividend. Okay? So now he’s going to hope for the stock price to go up. When he’s ready to sell, hopefully he wants to sell his shares for more than what he paid for them. Whereas Jill is getting paid on a regular basis. So Coca-Cola pays every quarter. So every quarter she’s going to be getting her dividends coming in.

(04:53):
So as dividend investors, we like getting the dividend because we want to get paid for owning shares in a company. Now let’s take a look at dividend yield because this is going to help us figure out if a stock is priced low, undervalued, or if a stock is priced high. So the dividend yield, it’s quite simple. It’s the dividend, which is the forward annual dividend divided by the share price. So let’s take a look at an example. So if a company is paying a dividend of $1 per share and the share price today is $20, one divided by 20, and we want to express that as a percentage is 5%. So what does the 5% really mean? So let’s take a look at this example. So let’s say Jill wants to invest $20,000 in this company. And remember, the share price is $20 each, so she’s going to be able to buy 1,000 shares.

(05:55):
So 1,000 shares multiplied by the $1 dividend gives us the annual dividends, which is $1,000 in dividends per year. Again, for as long as she owned the shares and as long as the company continues to pay the dividend. So the dividend yield is a quicker way to figure out how much money she’s going to get every year. So let’s stick with the same example. Let’s say Jill wants to invest $20,000 in this company. The dividend yield is 5%. 5% of 20,000 is $1,000, which is exactly the same number we had in the previous slide. And remember, in this example, the $1,000 is earned per year in dividends regardless of the stock price changes, right? Because the dividend yield, your dividend yield, or in this case, Jill’s dividend yield is determined on the day she buys the shares. So in this example, she’s buying the shares at $20 a piece.

(06:58):
So if the stock price goes to 25 or 30 or even 10, she’s still going to earn 5% every single year on her investment, as long as the dividend remains the same. So the stock price can go up and down, but the day you buy the shares, that’s going to be the day you can calculate your dividend yield. So in this example, Jill will continue to earn $1,000 every year and the stock price can go up and down, but she’ll continue to get her 5% return. So the dividend yield is the return on your investment while you hold on to your shares. Okay? So it’s a quick way to figure out how much money you’re going to make. All things considered equal, it’s better to make 8% yield versus 1%, right? So the more yield we can get, the more dividends you will receive on your investment.

(07:55):
So let’s continue with this example. So Jill, we’ve already explained 5% dividend yield will earn $1,000 in dividends each year. Jack, who is looking at Tesla, Tesla doesn’t pay a dividend. When the company does not pay a dividend, your dividend yield is automatically 0%. So 0% of $20,000 is $0 in dividends. Now, again, there’s nothing wrong with that. A lot of companies out there don’t pay dividends, but as dividend investors, we want to get paid. I want to get paid while I hold onto the shares. Okay? So that’s the difference here. Now let’s continue. Jill wants to figure out, is there a potential for her to make even more money, even more than the 5%? And the answer is yes. So I’m going to show you what that looks like. So if we start with the same example we had before, remember, the dividend yield is the dividend divided by the share price.

(08:56):
So the dividend is $1, share price is $20, the yield is going to be 5%. Now let’s say Jill decides she’s not going to buy the shares just yet. She’s going to wait a couple of days, maybe wait a week, and let’s say the stock price drops to $15. Okay? So now we’re taking the $1 dividend and we’re dividing it by 15. Again, expressed as a percentage, that’s 6.7%. Now let’s say Jill doesn’t buy the stock still, and she waits a few more days or a couple of weeks, and the stock price drops to $10 a share. You see what’s happening? Now the dividend yield is 10%. Okay? One more example, let’s say the stock price drops to $5 a share, now the yield is 20%. Okay. Would you rather earn 5% on your investment or would you rather earn 10 or 20% on your investment?

(09:51):
Like I said before, the higher the number, the greater the return on your investment. So do you see what’s going on here? If you look on the screen, the stock price, we started with $20 a share, and then we went down to 15, then we went to 10, then we went to five. But what happened to the dividend yield? The dividend yield started off at 5%, then it went to 6%, 10, and then 20. So you can see here that as the stock price continues to drop, the dividend yield goes up. So all things considered equal, if you were going to invest $5,000 in this company at a 5% yield, you’re going to get a certain amount of dividends. At a 20% yield, you’re going to get way more dividends. Why? Because the stock price at 20% yield is $5 a share. So the same $5,000, you’re going to be able to buy way more shares than you could have if the stock price was $20 a share.

(10:54):
So the lower the stock price, the more shares you’re able to buy, the more you’re going to get in dividends and the dividend yield goes up. Now, the opposite is also true. As the stock price starts to creep up, so if we start at $5 a share and we go to 10, 15, and 20, what’s happening to the dividend yield? Right? We’re starting at 20%, then it’s going to 10, then 6% and then 5%. So as the stock price starts to creep up, the dividend yield is going to start to come down. So how does this help Jill? She’s interested in Coca-Cola and we have to help her figure out today, is the stock undervalued, priced low or priced high? So let’s take a look at this. Stock prices go up and down all the time. So you can see that on the screen, the graph is just going up and down, right?

(11:49):
Stock prices do that all the time. Now, what if I was to tell you that in this example for this company, over the last 10, 15, or 20 years, the average dividend yield for this company is 3%. And the current dividend yield today for this company is 5%. Okay? Now remember, as the stock price starts to go down, the yield goes up. So the current yield today of 5% is higher than the company’s average yield of three. So your buying area is right there below the orange line. You can see it on the screen, and I’ve also highlighted in blue here. So below the orange line, that’s your buying area. That’s where you want to buy the stock. That’s when the stock is undervalued or priced low. Now, what if I was to tell you … So let’s finish this slide here. So this is saying the same thing.

(12:51):
So if the current yield today is higher than its average yield, then the stock is considered undervalued or priced low. So what if I was to tell you that in this example, the current yield today for this stock is 1%. Okay? So remember, as the stock price starts creeping up, the dividend yield is going to go down. So if the current yield today, which is 1%, is less than the average, we know that the stock is priced high, and that’s anything above the orange line. So that’s when the stock is overvalued. So if a stock is somewhere in that range and you’re considering buying it, I would recommend you skip it. The stock’s overvalued, move on to something else. Okay, so this is what it looks like. So 1%, which is the current yield, is less than the 3%, which is the average yield. We know that the stock is priced high.

(13:47):
We’re going to skip it, move on to something else. Okay. So Jill is still looking at Coca-Cola. So let’s take a look at that right now. Is the stock priced low or is it priced high? So we’re going to do that right now and we’re going to go to Yahoo Finance. You can see on the screen right now, I’m on the Yahoo Finance website. And again, you can go to any website that gives you stock prices or stock quotes and to send money, Google Finance, or any other site. We’re going to use Yahoo Finance as an example. So I’ve gone ahead already and searched for Coca-Cola and again, the stock symbol is KO, so we can see that there. Okay. So right here, you can see where it says forward dividend and yield. So the current yield today for Coca-Cola is 3%. So now we’re going to go ahead and click on right here.

(14:38):
Statistics, I’m going to scroll down and right here. See where it says five-year average dividend yield. Now, I like to use the 20-year average yield. Okay? Some people like to use the 10-year, 15. I prefer the 20. I’ll do a future episode on this podcast on why I like to use the 20-year average. In this case, on Yahoo Finance, all they give us is the five-year average. So we have to work with what we have. Okay? So the five-year average is 3.14. So you can see that right here. So now on the screen, you can see that I’ve put it in. The current dividend yield for Coca-Cola is 3%. The average dividend yield is 3.14. And if you remember the formula, if the current yield is less than the average yield, the stock is overvalued or priced high. So in this case, Jill will have to skip Coca-Cola and move on to another stock.

(15:45):
I know it’s close. The numbers are close, but technically the stock is still overvalued or priced high, and we don’t want to be buying stocks when they’re priced high. Now, Jack has moved on from Tesla for a moment. He’s interested in Walgreens. Now, so he wants to know is Walgreens priced high or priced low. So we’re going to do the same thing with Jack. I’ve gone ahead and put that up on the screen. We’ve gone to Yahoo Finance. We can see that the current dividend yield is 5.85%, and we can see that the five-year average is 3.47%. And since the current yield is higher than the average yield, Walgreens today, as of this recording, is undervalued and priced low. So now you can see the difference. So Jill would have to skip Coca-Cola for now, move on to something else. Jack can consider Walgreens for investing.

(16:51):
Okay. So I’ve showed you how to do this on Yahoo Finance. You can go to other finance websites and figure out the current yield and the average yield. If you want to go a little faster in the simply investing platform, which I’ve built, took almost over two years to build. And so what I do in the platform is I will calculate for you, I will look at the current yield, I’ll compare it to the average yield, and I use the 20 year average. We also have 15, 10, and five. And then the platform will tell you automatically whether or not a stock is undervalued, priced low, or overvalued, priced high. And if a stock is overvalued, it’ll highlight it on the website itself. So you can immediately see, okay, this is a stock I’m going to skip for now. And the platform does this every single day for every single stock in the US and in Canada.

(17:49):
Okay. So now, does this mean, should you just go out and buy any stock that’s priced low? And the answer is no. And neither should Jack and Jill, even though they looked at Walgreens was priced low. It doesn’t mean you should just go ahead and jump right in and just buy the stock because it’s priced low today. Our approach is to invest in quality dividend stocks when they’re undervalued, priced, low. So how do you know when a stock is a quality stock or when it’s not a quality stock, right? Because we don’t want to buy just any stock or any dividend stock. So to figure out if you’re looking at a quality stock, I’ve created what I call the 12 rules of simply investing. So before you invest in any stock, make sure that it passes all of the 12 rules. If it fails even one rule, you need to move on to something else.

(18:49):
Look at a different stock. Okay? For those of you listening on the audio podcast, I’ll just quickly go through the list of just read out the 12 rules. Rule number one, do you understand how the company is making money? Rule number two, 20 years from now, will people still be using its product and services? Rule number three, does the company have a low cost competitive advantage? Rule number four. Is the company recession proof? Rule number five, is it profitable? Rule number six, does it grow its dividend? Number seven, can it afford to pay the dividend? Rule number eight, is the debt less than 70%? Rule number nine, we want to avoid any company that has had recent dividend cuts. Rule number 10, does the company buy back its own shares? Rule number 11, is the stock priced low? And that’s what we’ve covered today.

(19:49):
Rule number 12, keep your emotions out of investing. Now I cover all of the 12 rules in detail in the Simply Investing course with real life examples. So if you’re interested, have a look at that. The Simply Investing Platform, I just showed you a screenshot before. The platform applies all of the rules every single day to every stock in the US and in Canada, so it does the work for you, so you can focus on quality stocks when they’re priced low. So if you enjoyed this episode, make sure to click the like button, hit the subscribe button as well. Take a look at my website, simplyinvesting.com. Lots of information there, and I hope to see you in future episodes. We have new episodes out every week. We’ll be looking at the power of dividends, how to beat inflation using dividends, what’s the payout ratio, and a whole bunch of other things I’m hoping to get some guest interviews in as well.

(20:46):
Thank you for watching. We’ll see you next week. I