Is Yield on Cost a Useful Metric?

Yield on cost is a popular metric among dividend investors, but it is also one of the most controversial. Understanding exactly what it measures - and where the argument against it breaks down - helps you avoid a common cognitive trap that can distort your portfolio decisions.

What Yield on Cost Measures

Yield on cost compares your current dividend income to the original price you paid for the stock.

Formula: Annual dividend per share / Original purchase price

For example: you bought 100 shares at £10 each. The company now pays £1.50 per share in dividends annually. Your yield on cost is 15%.

While this can feel psychologically satisfying, critics argue that it can distort investment decisions by anchoring your thinking to a historical price that has no bearing on your current economic position.

The Key Criticism

Imagine the following scenario:

• You bought a stock for £10
• It now trades at £50
• It pays a £2 dividend

Your yield on cost appears to be 20%.

However, the market value of the stock is £50 today. If you sold the stock and immediately bought it again at £50, your yield on cost would suddenly drop to 4%, even though nothing about the business changed.

This highlights the main issue: yield on cost is based on a historical number that no longer reflects the economic reality of your investment.

The Liquidation Thought Experiment

Critics often propose a simple mental exercise:

Ask yourself: "If I sold my entire portfolio today and rebought the exact same assets at market prices, would anything change?"

Economically, the answer is no. The businesses are the same, the dividends are the same, the prospects are the same.

But yield on cost calculations would change dramatically. This reveals the metric for what it is: a measure of your historical entry point, not of your current investment value.

The Opportunity Cost Problem

The deeper issue with yield on cost is that it can mask a poor use of capital.

Suppose your stock has grown from £10 to £100 and pays a £2 dividend - a 20% yield on cost. The current yield, based on market value, is 2%.

If there is another investment paying 5% on its current price, you are leaving 3% annual income on the table by staying put - even though your yield on cost makes staying feel like the brilliant decision.

Yield on cost has no opinion about opportunity cost. It only tells you what you earned relative to a purchase price that is now largely irrelevant. The relevant question is always: given today's prices, is this the best use of this capital?

When It Can Be Useful

Yield on cost is not entirely without value. It can be genuinely useful for:

• Motivating long-term investors. Watching your yield on cost grow over time - as companies raise their dividends year after year - provides concrete evidence that patient investing is working. That motivation has real value.
• Tracking dividend growth over time. Yield on cost is a good proxy for how well a company has grown its dividend relative to its original valuation when you bought it. A rising yield on cost on the same number of shares means the company is paying out more in real terms each year.
• Reinforcing the benefits of holding quality businesses. Seeing a 15% yield on cost on shares you bought a decade ago demonstrates the compounding power of dividend growth investing in a visceral way.

But it should never be used to decide whether to buy, hold, or sell a stock.

The only number that truly matters for those decisions is the current yield relative to the current market value of your portfolio - and whether a better use of that capital exists elsewhere.

The Right Framework

When evaluating whether to hold a dividend stock, ask:

1. What is the current yield at today's price?
2. Is that yield sustainable, based on the company's payout ratio and earnings trend?
3. Is there a better risk-adjusted income opportunity available at current prices?

Yield on cost is irrelevant to all three questions.

For a broader look at how dividends fit into a long-term strategy, see what is dividend investing and are dividends irrelevant.

Frequently Asked Questions

Why do dividend investors love yield on cost?

Because it visibly rewards patience. Watching a stock's yield on cost grow from 3% to 15% over a decade is tangible, satisfying evidence that holding quality businesses through volatility has paid off. The psychological reinforcement is real, even if the number should not drive sell decisions.

Can yield on cost ever be used for buy decisions?

No. When buying a new position, yield on cost is zero and irrelevant. The only metric that matters at the point of purchase is the current yield at the current price, assessed against the dividend's sustainability and the opportunity cost of alternatives.

What is a good yield on cost?

There is no universal benchmark. A yield on cost of 10% or higher is commonly considered strong among long-term dividend investors, as it implies the company has significantly grown its dividend since you purchased. But this says nothing about whether the position should be held - that depends on current yield and opportunity cost.

Does yield on cost affect total return?

No. Total return is the combination of capital appreciation and dividends received, calculated from purchase price. Yield on cost influences how you perceive the income component, but it does not change the actual cash you have received or the current value of your investment.

Further Reading:

Dividends Still Don't Lie - Kelley Wright - Wright uses dividend yield as a value signal rather than a static income metric - a framework that directly addresses the opportunity cost problem at the heart of yield on cost criticism. (Affiliate link - we may earn a small commission at no extra cost to you.)

Read next

• What Is Dividend Investing?
• Are Dividends Irrelevant?