Don't Ignore the Dangerous Side of Dividend Stocks

Pitney Bowes

With low interest rates having eliminated any chance of earning a decent income from bank CDs and other safe investments, millions of conservative investors have turned to dividend stocks. That would seem like a logical move.

Yet in moving more of their money into the stock market, investors often forget that dividend stocks are a lot more dangerous than fixed-income investments -- and owning the wrong dividend stocks can end up burning you twice.

Just When You Thought You Were Safe

Pitney Bowes (PBI) gives us a textbook example to illustrate the dangers.

When it comes to solid dividend stocks, Pitney Bowes looked incredibly attractive to many investors. The stock sported a sky-high dividend yield of nearly 10 percent, and even more importantly, Pitney Bowes had demonstrated its commitment to increasing its dividend payouts over time, with a 30-year track record of boosting its dividends on an annual basis.

Yet that track record didn't stop the company from slashing its dividend in half after it announced its most recent quarterly earnings. Citing the need for "add financial flexibility to invest in its business and enhance its capital structure," the company will now pay $0.1875 per share on a quarterly basis, beginning with its June payment.

As if the news that half of their income would disappear weren't bad enough for investors, Pitney Bowes' shares immediately plunged after the market opened following the announcement. Within hours, shareholders had lost more than 16 percent on their investment.

Warning Signs

Attentive investors saw signs of potential trouble long before Pitney Bowes' announcement.

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The stock was removed from the prestigious Dividend Aristocrats list because of the drop in its market capitalization, which took away one of the company's biggest incentives to keep raising its dividend. Moreover, the company had started diverting cash toward paying down debt, reducing the amount available for dividend payments.

Perhaps most importantly, Pitney Bowes had skipped its usual token dividend increase earlier in the year, signaling a change in its payout policy.

Despite those signs, the stock's rapid plunge shows how surprised most investors were by the move. Dividend cuts usually create strong downward pressure on a stock's price, and that leaves the conservative investors who gravitate to dividend stocks facing an unpalatable combination of big principal losses and reduced income going forward.

Know What You're Getting Into

Bank CDs are largely buy-and-forget investments, which you can let sit until they mature. Dividend stocks, on the other hand, require regular attention, and even then, unexpected pitfalls will occasionally wreak havoc on your portfolio.

Remember that before you move too much of your money into dividend stocks in search of better returns.

Motley Fool contributor and The Motley Fool have no position in any of the stocks mentioned. For long-term investing ideas, check out our free special report, "The 3 Dow Stocks Dividend Investors Need."