Beware The Dividend Trap — How To Protect Your Money From This Classic Investment Mistake

Dividends are often associated with safe, stable income. But that’s not always the case. And today’s article discusses a serious issue which often destroys the gains of any would-be income investor.

That’s right, we’re about to discuss dividend traps and how to avoid them.

What Is A Dividend Trap?

According to dividend.com:

A value trap (also known as a dividend trap) occurs when investors are lured in by a high dividend yield, only to find the underlying company was not such a great buy after all.

In other words, you think you’ve found a tremendous bargain when you’re actually buying junk. Unlike penny stocks however, many of these stocks are issued by well-known and established businesses.

Here are a few examples:

• Big oil companies (Occidental Petroleum comes to mind).
• Tobacco producers (Altria might be considered one).
• Highly controversial sectors (like private prisons).
• Certain real estate trusts and lending firms.

In other words, you’re buying into a real business with tangible assets and (in many cases) a proven track record. On paper, these investments often make sense. Americans consume 19.96 million barrels per day, how could you possibly lose with a bet on big oil?

In reality, these companies are cheap and offer high dividend yields for several reasons. The two biggest being

1. Their stock prices continually fall, pushing up the dividend yield.
2. Nobody wants to buy them.

Occidental Petroleum is down 65% in the past five years, and is currently trading at less than half its price from March of 2019.

(12-Month Stock Return)

Even with the high dividend yield ($3.16 per year), investors still lost tons of money.

Another company like this, and one which is often recommended to new or inexperienced investors, is…