Yield on cost

The dividend yield of a share is fairly easy to understand. It is the current dividend per share divided by the current share price. So a company with a current dividend per share of 4p, and a share price of 100p, has a dividend yield of 4%.

If the company paying the dividend is successful, then its profits and dividends will grow over time. If the dividend grows by 5% per year for ten years, then it will have risen to 6.5p by the end of year ten. As a result, if you bought the shares at 100p ten years ago, then your yield on cost would now be 6.5% (6.5/100) in other words, it tells you the dividend return as a percentage of the price that you paid for the shares.

This measure is worth bearing in mind if you are investing for income. You might be able to buy a company bond that is paying an interest rate of 5% today, or you might be able to buy its shares with a dividend yield of 3.5%, which is expected to grow at 10% per year. The income from the bond is higher at first, but it will stay the same for the life of the bond.

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If you buy the share instead, you'll have a lower yield at first, but after four years of 10% dividend growth the share will be paying a higher income on cost than the bond (though this ignores the risk of disappointments).