A high dividend yield can indicate a stock that is out of favor. Conversely, a low yield can indicate a stock that is, perhaps, selling at a premium. When you examine Eaton(NYSE: ETN), W.W. Grainger(NYSE: GWW), and Caterpillar(NYSE: CAT), you see that the latter is the case as all three have historically low yields today.
The low yield doesn't mean these three are bad companies, it just means that investors buying now could be pricing in a whole lot of good news already. Here's a quick look at each and why they are probably best left on the wish list for a pullback.
1. Eaton pivoted toward growth
Industrial company Eaton has been around for more than a century, starting its life selling products to the automotive industry. It has shifted and changed with the times, and today its core business is centered around helping companies manage power, particularly electricity.
That has proved to be a very wise focus, noting how important electricity is to modern society. And with the transition of the power market toward renewable energy and a push to move production back to the markets they serve (and away from countries like China), it doesn't look like there will be a letup in demand anytime soon.
It is a strong business, but investors know this already. The 1.4% dividend yield is near its lowest point over the past decade.
Yes, demand for the stock remains strong, especially on news of record sales and margins in the third quarter of 2023. But buying today means you are paying a premium price for that strength. As a cyclical industrial stock, it might be better to wait for a recession before looking at Eaton.
2. Grainger is putting up strong numbers
Grainger is another industrial company that's performing well today. Sales grew 6.7% year over year in the third quarter, with earnings per share up 14.1%. The company -- which provides maintenance, repair, and other operating products to companies in North America, Japan, and the United Kingdom -- has been benefiting from solid economic growth.
And investors appear to be well aware of its success, given the 1.7% dividend yield, which is hovering near its lowest level in a decade.
Grainger is a well-run company and is a Dividend King, a highly elite group of companies that have increased their dividend annually for 50 consecutive years or more.
But its historically low yield suggests that its stock is expensive today. You'd be better off waiting for a recession, which might lead investors to toss out the baby with the bathwater and, perhaps, put this industrial giant on sale.
3. Caterpillar helps build big things
Caterpillar is another industrial giant, keeping with the theme here. Its large, yellow construction equipment is iconic and recognizable from great distances.
With companies building factories and distribution assets as they move their businesses closer to their customer bases, Caterpillar's products have been in high demand. The need to upgrade aging infrastructure is also a positive for the business.
There are a lot of reasons investors love the stock, including the fact that sales rose 12% year over year in the third quarter, with adjusted earnings jumping 40%.
But, as with the companies above, the love on Wall Street has translated into a low 1.8% dividend yield for Caterpillar. That's roughly the lowest over the past 10 years, suggesting that the stock is trading at very dear levels.
The need for construction equipment isn't likely to go away, but a recession would probably dent demand and cause investors to change their perception of the stock. At that point, it might be worth looking at again.
Benjamin Graham was right
Warren Buffett notably trained under Benjamin Graham, a value-focused investor. One of Graham's famous maxims is that even great companies can be bad investments if you pay too much for them. That line applies to Grainger, Eaton, and Caterpillar at the moment.
If you own any of these companies, you should be pleased with the massive stock advances that have pushed their yields so low. But understand that they are trading at high valuations that will probably revert to lower levels at some point. For those who don't own this trio, meanwhile, now might not be the best time to buy.
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Reuben Gregg Brewer has positions in Eaton Plc. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.
