Skip to main content

Sound Advice: June 5, 2024

What You Need To Know About Dividend Stocks

At first glance, the appeal of stocks paying generous dividends is the sense that there will be a dependable flow of income while holding them.  Well, as you might suspect, there’s a lot more to think about before buying.

Stocks that pay generous dividends are typically those of mature companies with moderately growing profits.  When dividend yields are above average, the price-earnings ratios are usually low, i.e., their valuations relative to ongoing gains are relatively low. The reason for the low valuations is that investors do not expect the rate of yearly progress to change much.

The polar opposite of dividend stocks (which are also known as value stocks) are high growth companies that offer little or no payout with their shares. 

If all dividend stocks and high growth stocks would perform in line with expectations, the high growth stocks as a group would outperform the dividend stocks.  But the actual results over time show the exact opposite result. 

How can this be?

The reason is that there are always a few members of the high growth group that turn in disappointing results, which inevitably causes investors to bail out, often dropping the stock’s price by precipitous amounts. So even though most of these stocks will do well, the drag caused by the laggards will weigh heavily on the average of all held.

The opposite takes place with dividend stocks.  Not-so-hot news has already been built into current prices, so as more of the same is announced, there’s not likely to be much impact.  But when these companies report larger than expected upside surprises, they will jump.  And those jumps will tend to raise the average returns of the group about those of the high growth companies.

To take advantage of this apparent anomaly, it is essential to buy groups of at least two dozen of the dividend stocks. Always ensure that the dividends being paid are comfortably covered by the current level of earnings.

This approach will not work in every year, but over time it should be worthwhile.

These findings are based on a 20-year study of the Standard & Poor’s 500 in which we divided the universe into 10 deciles (50 stocks each) from lowest to highest dividend yields.  The highest long-term returns were from the group of highest dividend paying stocks. Returns descended in perfect order from highest dividends to lowest dividends.

A similar study divided the S&P universe in 10 deciles from lowest to highest price-earnings ratios. Although not in perfect order, the returns were highest for the stocks with the lowest price-earnings ratios and lowest for those with the high price-earnings ratios.

Each of the exchange-traded funds holding high dividend stocks that may be worthy of consideration should have at least two to three dozen holdings.  A variant from Vanguard, VIG, simplifies that approach by holding what appears to be the top third of dividend payers in the S&P universe. That ETF might be viewed as a hybrid market index fund rather than a high dividend vehicle.

N. Russell Wayne

Weston, CT

Any questions: please contact me at nrwayne@soundasset.com

203-895-8877

www.soundasset.blogspot.com

Comments

Popular posts from this blog

Sound Advice: January 3, 2025

2025 Market Forecasts: Stupidity Taken To An Extreme   If you know anything about stock market performance, you can only gag at the nonsense “esteemed forecasters” are now putting forth about the prospective path of stocks in the year ahead.   Our cousins in the UK would call this rubbish.   I would not be as kind. Leading the Ship of Fools is the forecast from the Chief Investment Strategist at Oppenheimer who is looking for a year-end 2025 level for the Standard & Poor’s Index of 7,100, a whopping 21% increase from the most recent standing.   Indeed, most of these folks are looking for double-digit gains.   Only two expect stocks to weaken. In the last 30 years, the market has risen by more than 20% only 15 times.   The exceptional span during that time was 1996-1999, which accounted for four of those jumps.   What followed in 2000 through 2002 was the polar opposite: 2000:      -9.1% 2001:     -11.9% ...

Sound Advice: March 10, 2021

The ABCs of Stock Picking After decades of analyzing stocks (and funds) and investing for clients, I'm happy to share in plain English what's involved, what works, and what doesn't.  Keep in mind the reality that successful stock picking is an effort to maintain a good batting average. In baseball, a batting average of .300 or better is considered quite good.  With stock picking, you need to do better than .600, which means you have many more winners than losers. No one gets it right all of the time.  It's not even close.  Wall Street shops all have their recommended lists and the financial media regularly hawk 10 stocks to buy now. Following that road usually is a direct route to disaster.  Don't be tempted. Let's begin with the big picture: The stock market goes up and down over time, but the long-term trend is up.  When there's a rally under way, everyone feels like a genius.  When the market hits an air pocket, though, with few exception...

Sound Advice: June 17, 2020

Rock and a Hard Place Regardless of your age, impressions from childhood linger.  As the first days of summer approach, we all remember the feeling that accompanied the end of a school year.  Yet as much as many of us would like to believe we again have the summertime freedom to do as we wish, the reality is quite the opposite. Although months of confinement and limitations on social interaction have increased our personal discomfort and severely impacted the business community, our current situation is not analogous to the end of any school year.  It’s quite the opposite. There is every reason to continue wearing face masks, social distancing, and avoiding close contact with others.  Nothing suggests that we can modify our behavior significantly or resume patterns of daily living we enjoyed only a few months ago. There are no meaningful advances in medical treatments.  At best, there are attempts to combine different approaches...