Dividend stocks have long been in the ‘sweet spot’ as one of the best risk/reward trade-offs for investors in the equity space. This is especially true of companies who have managed to consistently provide a raise to their shareholders year after year in the form of dividend increase. This consistency and reliability is something investors are willing to pay up for and a long standing track record of steady dividend growth is probably the best indication of a solid and prudent management team. In short, the more trust a company can garner among existing and potential shareholders, the more likely they are to secure a loyal shareholder base. The end result over long periods of time is higher return with less risk or volatility. It’s not surprising then to see the effect of a basket of securities who have cut their dividends over time and how they compare.
The next point of discussion is whether this is likely to continue. In order to assess that likelihood, we have to consider the backdrop. The front end of the baby boomers have just begun to retire with the youngest of the baby boomers in their early 50s. In retirement the boomers will need to supplement working income for investment income and what are their available investment choices that would pay them a reasonable income? Increasingly, for several years now the answer has been “not bonds”. For decades, the yield available on government bonds has shrunk to very low levels. Currently the yield on a 10 year government of Canada pays you 1.09%. In the US, its slightly higher at 1.61%. Just for fun, let’s quote the German 10 year at -0.065% (yes, that’s a negative- which means it costs you money to have it considered safe). As we review the long term outperformance of dividend growth stocks since 1986, its noteworthy that during most of that time, bonds offered yields that were more attractive and with guarantees of principal. In just the last few years the yield on the TSX have eclipsed 10 year government bonds and this would include all companies in the TSX some of which do not pay dividends. The TSX dividend yield average is approximately 3.2% so there is a handsome premium to consider dividend stocks.
In summary, if we consider the tailwinds from demographics and the current yield environment for investments, the Dividend trade could remain in vogue for years to come. Especially if the consistency of certain dividend stocks continues and conservative investors get more comfortable given the yield they need to achieve. Often in this business, however, there are tendencies to constantly assess valuations relative to the recent past. To that end, Dividend Stocks are not inexpensive by any stretch but they are more expensive for a reason- they are more sought after. Should we remain in a period of low rates and low government bond yields, it’s not impossible that we find ourselves back to the period of the nifty fifty in the 1960s which saw dividend stock valuations soar (similar to growth stocks in the 1990s) well above the market average for a sustained period of time. For long term investing success it’s important to recognize how some of these long term themes unfold and to stay invested to benefit.
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