Does Dividend Investing Still Work?
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Walk on the money for the rest of us. This is a personal financial on money, how IT works, how to invest IT and how to live without worrying about IT. I'm your host, David spin.

Today is episode four sixty six. It's title. Does divided investors still work? Earlier this month, meta, formerly named facebook, announced its first quarterly dividing a fifty cents per share. The dividend will be paid on march twenty six, twenty twenty four for shareholders of record who own the stock as a february twenty second twenty four. Meta has been a public company since twenty twelve.

It's never previously paid out a portion of its profit as a divided now IT will pay about nine percent to thirteen percent of what IT earned on a partial basis as a dividend to its shareholders. The cash used to pay the dividend is cash matter or not be able to deploy in other ways. You won't be able to use that cash to invest in future projects.

And I can use the cash to pay down that or buy back shares of meta common stock. The day after meta made its divine announcement, its common stock jumped twenty percent to four hundred and seventy four dollars per share. In theory, when a publicly traded company pays a dividend, IT stocks should drop by the amount of the dividend in the same way that the net acid value of a mutual fund or etf falls by the amount of the divided paid.

If there's less cash that the fund has or the company has on its baLance sheet because IT payed out the division, then the investment should be worth less. That's not actually how IT works. However, companies such as meta don't initiate a dividend or increase the dividend without serious consideration.

Back in one thousand nine hundred seventy six, economist Fisher black published a seminal paper on dividends, was titled the dividend puzzle in the paper, black road that divided policy says things that managers don't say explicit managers and directors don't like to cut their dividend. So they'll raise the dividend only if they feel the company's prospects are good enough to support the higher dividend for some time, and they will cut the dividend only if they think the prospects for a recovery are poor. And so sort of the unwritten statements when companies make divided announcements to increase the division to initiate dividend is that they'll be enough cash and the prospects of the company is good enough to sustain that dividend.

And it's not just companies to do that. Managers of closed and funds, for example, where much of the return comes from dividends are very deliberate while raising a dividend to make sure it's sustainable. The idea of not making big changes in your dividend is known as divided smoothing.

Companies like to have a stable payout, and then they increase IT when they feel they can or they like to increase IT clearly. But if they don't see that the cash will be there looking out several quarters, then they'll be hesitant to do that. Now the data supports the idea that companies that cut their divided are signal things are not going well.

The worst performing stocks are those that cut their dividends. This is research by net Davis. Research goes back to one thousand nine hundred and seventy three, and they sort all the stocks that make up the S.

M. P. Five hundred. This is us. Large and mid cap stocks. And then they separate them into categories over time, divided growers and initiators.

So to pay divided and they announce a higher division or they announce that they are starting to pay a dividend. So meta will now be included in the dividend initiator pool. Now the category is all divided pink stocks.

The all divided pink stocks would be both those that are divided growers as well as divided payers that don't change their dividends. They include non dividing pink stocks. The fifth category, and then the six category is divided cutter or eliminators.

The other category didn't mention was just the overall equal rated total return of the S M P. Five hundred. The study goes back to one thousand nine hundred seventy three.

And the analyzed return for the dividend growers and initiators over that time is thirteen percent. All division pink stocks return twelve point seven percent. The equation ted S M P had an analyze return of twelve three percent.

Not divided paying stocks returned eleven point seven percent. Dividend payers that didn't change their dividends. So they are not increasing their dividends and thus signaling that they can afford to increase their dividends.

They did second worse at eleven point one percent annualized. And then the dividend cuts, or eliminators, did the worst of all at nine point six percent analyzed. So over this long history, going back to one thousand nine hundred and seventy three, it's the dividing growers and initiators that did the best, followed by all divided paying stocks.

Those who did the worst were the dividend cuts. But some things changed. In the last twenty years, none divided paying stocks have outperformed.

All the other category was an article recently in the wall street journal by john syndrome. He writes, ever since the two thousand eight, two thousand nine financial crisis, investors have sneaked a dividends. Us equities with divided yards above five percent have returned roughly four hundred and fifty percent since the end of two thousand eight.

That would be a cumulative return that's below the six hundred and forty percent gain for the wider S M P. composite. Fifteen hundred that would include both divided pairs and non dividend payers. Companies that didn't pay dividends returned twelve hundred percent.

So significantly outperform will look at comparable data from net Davis research in that article, syndrome quoted Daniel paris, who is a portfolio manager and publish a book called the ownership dividend. Perry says the notion that large successful businesses wouldn't make a cash distribution to company owners is abNormal. Paying dividends is the from sixty note two and the first stock exchange was launched an amsterdam until the mid twenty a century, investors bought stocks for the dividends.

Stocks were considered risky, and investors demanded cash to compensate for that risk. Frequently, for long stretches of time, the dividend yield for stocks, which is the dividend divided by the Price, was higher than the yield to maturity on bonds, because stocks were considered risky, risky than bonds, and investors want to cash percentage of the profits to compensate for that risk. But here we are.

We look at, over the past twenty years, non dividing pink stocks. Data from the Davis research return ten point one percent analyzed the same return as the dividend growers and initiators. Now the dividing cutter still to the worst three point two percent annualized.

And the dividend payers that didn't change their dividends did second worst at seven point nine percent. We look at the past decade, not divided paying stocks, seven point two percent verses ten point eight percent for dividing growers and initiators. And in the same order, the dividing cutters, again, did the worst.

So what is switch in those periods is the return between the non dividing pinks stocks and the dividing growers and initiators. Going back to one thousand nine hundred and seventy three, dividing growers and initiators outperformed the non dividing paying stocks by about one point three percent annualized. But over the past five, ten and twenty year periods, non dividing pink stocks have edged out the dividing growers and initiators, not by much, but something changed.

Fisher black and his paper said that investors might prefer not to receive dividends if the tax rate on dividends is higher than the tax rate on long term capital gains. But in the us, since the job growth and tax relief reconciliation ation act of two thousand three was passed, the tax rate for qualified dividends, which would include dividends paid by public traded companies through their common stock. That tax rate has been the same as for long term capital games.

If you have taxable income in your married filing jointly, income below roughly eighty nine thousand dollars there tax on dividends or capital gains. If you're married filing jointly with a tax will income between eighty nine thousand and five hundred fifty three thousand, then the capital against tax rate, long term capital against fifteen percent as is qualified dividends. So the tax rate, because is the same, isn't really impact the preference for investors whether they want dividends or not grand with long term capital gains.

The investor can choose when they want to take that. If they're in an individual stock, they don't necessary have that choice. If there are etf for mutual fun, where is the dividend? It's you're paying the tax when it's received, so you have less flexibility.

There is also the idea that investors back in the day preferred dividends because if they needed cash, the transaction cost the commissions to sell this, the investment noted to raise the cash to meet spending needs. Those expenses were exorbitant. The transaction costs commissions, the trade stocks was forty dollars per share.

But that's not the case today. Most online brokers, the commission for trading stocks, sentiment zero. Here we see that something seems to have changed in the last two decades.

The nine divided paying stocks are outperforming, all divided pinker, cks and eggs out, performance wise, the dividing growers and initials on acid camp, which is our research platform for individual investors that want to Better understand what's going on with common stocks, specifically indexes, we can get some clues for why non dividing paying stocks are doing Better than divide pank stocks. In our s camp update next month, new release were introducing summary tables where subscribers can sort the forty six stock indexes that we have by thirteen different metrics. And so I did some sorts.

First off, I looked at the returns of growth versus value. By and large growth companies have a lower dividend yelled, then non growth company is. So the dividend yield for U.

S. Growth stocks, this is msi USA growth index is zero point four percent. The long term average is one point eight percent, so the divided yelled for growth stocks is actually fAllen over the past a few decades.

The divided yelled for U. S. Value stocks is two point five percent. This is as of the end of january, the long term average three point eight percent.

So even the value talks have have a lower divided yellow now than they did going back really to one thousand seventy ty. So companies are paying a lower amount relative to their Price in dividends. When a company pays less in dividends, it's often they're paying A A lower percentage.

The profits out, the divided and in the percentage of profits that companies pay individuals is called the pay out ratio for U. S. Growth stocks.

That's sixteen percent. So eighty four percent of U. S. Growth stocks earnings is staying with the company for them to reinvest for us, value stocks is forty seven percent of earnings, get paid out dividends, that's the pay out ratio. And for all U.

S, stocks, which includes growth and value is thirty six percent. Surprisingly though, outside of the U. S, the pair ratio for growth stocks is much higher, thirty nine percent for non U.

S. Growth stocks compared to sixteen percent for U. S. Growth stock. So they're paying more of their earnings out in dividends, which is why the the divided yelled for nine U. S.

Growth stocks hired to one point seven percent over the zero point four percent divided yield. U. S. Growth stocks. Companies that are typically paying less out in dividends with lower pair ratio should, in theory, have higher earnings growth, partly because some of the cash that they're using to not pay out the dividend is used to buyback stocks, so that can increase the earnings per share growth rate. And and that plays out if we look over the past decade, this is a performance contribution.

USA value stocks had an average divided yield of two point eight percent, and the earnings pressure are grew at three point nine percent. So combine that's around a six and half percent analyzed return. If we compare that to USA growth, that dividing yields average point percent over the past decade and Normal earnings growth has been eight percent.

So the earnings per share is growing faster with those growth companies. And combined, just the divided year plus anoma al earnings growth, growth has outperformed the value style. Now again, when we're talking about the dividends strategies, value does have a higher divided yet, but we were really comparing the dividend growers and initiators, but that even they are under performing slightly.

The non divider pairs, which in many cases are being dominated by the big cap growth companies, particularly technology stocks, and that's why met is kind of an outlier in initiating this dividend. Before we continue, let me pause and share some words from this week sponsors. Before we do, let me post and share some words for one of this week sponsors net sweet.

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Another way that we can rank stock indexes to look at, well, how are they generating higher profits? Are they just Better at deploying capital in the measure that we have for that is known as the return on equity, is a measure of profitability of companies, and it's calculated by dividing the aggregate t income of an index by the aggregate rehoisted ers equity demand of capital, equity capital that theyve raised, including retained earnings that haven't been distributed to shareholders as dividends. And by and large, the return on equity for growth companies is higher.

The long term average for U. S. A growth is twenty point two percent as of january twenty, and twenty four IT was twenty nine point five percent.

So that would be representative of the return equity over the past year. If we compare that to U. S.

A. Value, the long term averages is thirteen percent. Return on equity, the most recent year, IT was fifteen percent. So we're seeing growth companies are able to generate more profit per dollar of capital. They're just be more efficient, more productive.

And as a result, they're growing their earnings per share faster between a combination of buying backstairs and their investment projects. And that is allowing them in the current environment over the past decade, to outperform value stocks. The growth outperformed value, even the value had the higher dividend.

Now one of the other things we even really talked about is the valuation. We just look at the overall analyzed return of U. S.

Growth over the past decade. Its return fifteen point two percent analyzed, but almost six percentage points of that return is because the Price to earnings ratio of U. S.

Growth stocks went from twenty one point six. The thirty eight point two we wrote about this in our insiders guide newsletter a few weeks ago, just the sheer impact of growth stocks and U. S.

Getting more expensive, meaningfully more expensive than the average U. S. A. Value saw H. P. Ego from fifteen point four to eighteen point nine that added around two percent age points over the past decade to performance.

So growth has got more expensive, but we have to recognize growth has been much more efficient at deploying capital and has outperformed just based on the small dividends yield and the earnings growth. One consideration though is that possible that the increase in indexing is contributing to the outperformance of non dividing pink stocks relative to divide pink stocks back in the sixties and seventies ties. When individual investors, they clip the coupon, they bite individual stocks, in many cases for the dividend.

But with indexing. And as many investors invest through defined contribution plans for when k plans in the U. S, that could mean investors just aren't that interested in dividends.

They're not necessarily seeing IT because it's just money they are packing away, saving over the decades many in target date funds. And we've seen a flow out of active mutual funds where you had active mutual managers. More cognition of divided policies, divided universities, just a straight index.

Fn, since twenty fourteen, has been one point nine trillion dollars outflow from stock mutual funds according the morning star, and two point nine trillion dollars into stocky tps, most of which are passive tracking a specific index. Now the good news is that LED to a lower expense over time has been more competition. Actively managed equity mutual fund s have seen their expenditure dropped to point six six percent as of the end of two.

Back in one thousand and ninety six, there was one point one percent. But the average index equity mutual fund d its expense ration has fAllen from zero point three percent in one thousand hundred and ninety six, down a point o five percent today. The etf revolution, the index revolution has pushed down cost for investors, but there are some investors, hedge file managers.

I think there's some downside of this, and we've done episodes in the past. Isn't axing a bubble has had gotten too big recently. David I horn, who runs the hedge fun Green light capital, was a guest on very ridha ses master in business podcast I heard said I view markets as fundamentally broken because of the rise of indexing inhered beliefs.

There's not enough investors out there correcting the Price of undervalue companies. Most investors are, many investors are Price signal stic because are just investing through an index fun, and even the quant investing hasn't really changed that, he says. Does algorithm make investing have an opinion about Price? And he said, yes.

Like what is surprise going to be in fifteen minutes Green like capital is changed, how they're investing. They're not waiting for the market to correct the undervalue companies. Instead, I don says we can count on other long only investors to buy our things after us to push up the Price we're going to have to get paid by the company.

And that payment by the company, if they're generating cash low, can be in the form of dividends or can be in the form of buybacks. And I think it's a combination of that. In the past twenty years, these growth companies, these tech companies, these non developing companies have been more effective at deploying capital in buying backstopping ks.

And so they've grown their earnings in our perform divided pink stock that haven't been able to generate as high of return on capital. But it's also true that indexing has pushed up the value of those non zero pin companies more than a pushed up the value of divided paint company. So as we look going forward, we don't know there's some other reasons, though to favor divided pairs.

I recently had a discussion with a friend that is in the investment management business and as an institutional adviser, I didn't spend a whole lot of time worrying about dividends because we were managing assets for investors, mostly endorsed and foundations. They didn't care about dividends per say. Most of them had a spending policy where they spent a certain percentage of the total assets that they held.

Typically, IT could have been the three year average baLance of their portfolio. They might spend four percent or five percent of that. And then if they needed money that we would sell an investment, they would raise the money to spend.

And because are not for profit, there was an attacked consequence of that. But IT is an individual investor. I was discussing this with with this friend is at the point where he wants to tap some of his tag x investments to support spending is something that I do.

We rely on our portfolio for a portion of our annual spending at this stage of our life, partly because of their business. We're putting so much capital into building software tools like acid camp. But when you're dependent on your portfolio for this friend and and for me, we find that we don't want the volatility and it's nice to get the cash and not have to sell something to generate the cash. So i'm cognized ing of the income and investment is paying now, not so much on the stocks side, but certainly on closed end funds that I invest in, some bond funds, preferred stocks, things of that sort. But one reason to favor dividend investing is IT is less volatile.

To go back to the twenty years statistics from net Davis research, the standard deviation so is the measure of volatility, the range of returns, how much deviates from the average for not divided pink stocks is twenty percent compared to fifteen and a half percent for dividing growers and initiators, and the maximum drawed down the worst case loss over the past twenty years for non dividing paying stocks was fifty five percent versus fifty one percent for the dividing girls and initiators. So there is less volatility with dividing growers and initiators the most value, although, or the dividing cutters and eliminators standard via was twenty eight point one percent, the highest of all the category, and the maximum draw down is eighty three percent. So the worst strategy is to have dividend stocks that cut their dividends, which is why it's helpful.

The not just buy dividend stock has never high yelled. So in some of the pf, for example, that are in our model or full examples of money for the rest of plus, we on the wisdom to U. S, small capacity, divided growth fun.

This is small cap. Take D G, R S. It's buying division, paying U S, small companies, but their buying companies with growing the dividend. So they have that additional screen.

Is the dividend growing? Same for the western tree merging market, hy dividend E T F D E M IT is focusing on dividends, but IT applies a quality momentum. Screen and make sure it's totally avoiding companies that are getting ready to cut their dividend because that's the worst strategy of all.

One reason to focus on cash flow, to focus on dividends. IT is less volatile and it's emotionless taxing just to protect against the downside, especially when you're relying on that cash load to live. You don't want your portfolio selling off in a big way, which is often times.

And in this case of this friend, I A different bucket, you had a cash bucket for short turning a kind of this intermediate bucket or investment, said he was going to to live off of and was worried about the downside. And they need a growth bucket where he's just was fine with the volatility. And sometimes having this bucket approach can be helpful, but the dividend that income can reduce the volatility.

Probably the most famous divided paying etf is the VGA dividend appreciation etf ticker is V I G. And when we compare to the S P five hundred, such as the eyes shares cores, p five hundred e tf I V V, V I G has been less valuable. So the standard deviation is thirteen point four or V I G verses fifteen percent for I B B.

The maximum drawdown has been less. Going back fifteen years, there was forty seven percent for vig, fifty five percent for I V V. I V I G has under perform the overall stock market as represented by the eyes shares.

Corus would be five hundred tf over the past decade. The analyst returns from eleven point four percent versus twelve point seven. So what we're seeing in with etf that invest in dividing growers and initiators, they're under performance just like we saw with the net Davis research study.

Does that mean David investing is dead, doesn't work? No, I don't think so. It's been a tough period. There's a reasons for IT.

But given the high valuation of the non given pair gross dog right now, I think it's okay to have a variety of return drivers, okay to have divided orient strategies, income orient strategies to keep the volatility of your portfolio, to keep your emotional volatility down because you can depend on that cash flow and not have to be selling to raise cash if you're relying on your portfolio. The non given payers, the tech companies have been excEllent at deploying capital with high returns on equity, but another pricing. And so we can get these long periods of one strategy are performing another.

Why we diverse, we have a combination of strategies, different return drivers, one of which can be divided and strategies. I have some of my portfolio. We have some in our models. That's not exclusively what we're focused on. We want to ask a garden with a variety of asset types and return drivers, one of which can be divided paying stocks, those that are growing their dividends.

The division IT could be high divided etf that has some type of screen to make sure where hopefully protecting against the worst performing segment dividend cuts and eliminators that episode four sixty six. Thanks for listening. You may be missing some of the best money for the rest of us content.

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