High dividend yields need to be treated with caution. On paper, they could be excellent for passive income. But sometimes they’re too good to be true.
Let’s explore this by doing some maths.
An investment of £10,000 in a stock yielding 16.5%, would generate dividends of £1,650 in year one. Assuming the amount received was reinvested, income of £1,922 would be earned in the second year. Repeat this for another 18 years — a process known as compounding — and the investment pot will have grown to £212,089. At this point, the company will be paying annual dividends of £34,995.
This shows that, in theory, it’s possible to take a relatively modest lump sum and use it to generate a very healthy level of passive income. Yes, it’ll take a couple of decades but as they say, Rome wasn’t built in a day.
Is this really possible?
While such high returns are unusual, they do exist.
For example, based on the dividends it’s paid over the past 12 months, Liontrust Asset Management (LSE:LIO) is currently yielding 16.5%.
However, like most shares offering a double-digit yield, this figure needs to be treated with caution.
For the past three financial years, the specialist fund manager has maintained its dividend at 72p a share. Indeed, it looks as though this run will be extended to a fourth, when its results for the year ending 31 March 2025 (FY25) are declared.
However, the generous yield indicates a problem that’s been around for a while now. Namely, that the company’s share price keeps falling. Since its peak in September 2021, it’s down 81%.
And this fall has boosted the yield. At the end of FY22, it was 5.6%. As the stock price continued to fall – and the dividend remained unchanged – the return soared. It was 7% at the end of FY23, and 10.7%, a year later.
| Date | Share price (pence) |
|---|---|
| 31 March 2021 | 1,420 |
| 31 March 2022 | 1,274 |
| 31 March 2023 | 1,022 |
| 31 March 2024 | 672 |
| 21 February 2025 | 432 |
Buyer beware
This is a good example of why shares apparently promising high levels of passive income need to be treated with caution.
And in my opinion, the reason why Liontrust’s value is declining is because its assets under management (AuM) are getting smaller.
The company makes money by managing funds on behalf of its clients. But as the table below shows, its AuM have fallen during each of its last four accounting periods. If the funds acquired from buying other companies are removed, the position looks even worse.
| Assets under Management | FY21 (£m) | FY22 (£m) | FY23 (£m) | FY24 (£m) | HY25 (£m) | Totals (£m) |
|---|---|---|---|---|---|---|
| At start of period | 16,078 | 30,929 | 33,548 | 31,430 | 27,822 | 16,078 |
| Net flows | 3,498 | 2,488 | (4,841) | (6,083) | (2,067) | (7,005) |
| Acquisitions | 5,520 | – | 5,148 | – | – | 10,668 |
| Markets and investment performance | 5,833 | 131 | (2,425) | 2,475 | 201 | 6,215 |
| At end of period | 30,929 | 33,548 | 31,430 | 27,822 | 25,956 | 25,956 |
And if this trend persists, I think it’s inevitable that the dividend will be cut.
However, the company’s chair appears to interpret events differently to me. He confidently asserts: “The underlying business is in better health than it has ever been with regards to investment proposition, quality of people, reach of sales and marketing, and strengthening business infrastructure.”
If challenged, no doubt he’ll point out that the company’s profitable — it reported earnings per share of 13.67p for the first six months of FY25. But with this level of performance, it remains a puzzle to me how a dividend of 72p can be maintained. And I fear if it’s cut, there’ll be a major knock-on effect on the company’s share price.
For this reason, I don’t want to invest, despite the attractive dividend on offer.
This post was originally published on Motley Fool
