In era of low interest yields, stock dividends are enticing
When interest rates began sliding downward in 2007, few predicted rates would end up near zero and stay there so long that today it is not even feasible to count on interest income.
Low interest rates are driving many retirees and other conservative investors to take more risks as they reach for higher yields on the money they have saved. This has led savers to try to boost their incomes by investing in shares in corporations that pay regular dividends.
"Retired people have a pool of money and historically have invested it in safe places and lived off the income. Now yields are so incredibly low they can't do that," said Patrick Fisher, an investment adviser at Schneider Downs Wealth Management Advisors in the Strip District. "But dividends are not a risk-free investment, the way a bank CD tends to be."
There has been a substantial increase in the number of companies initiating dividends, especially in various non-traditional sectors such as technology -- Apple Inc., for example, began paying a dividend this year -- in light of many of them being so flush with cash.
Non-financial U.S. firms rated by Moody's Investor Service held $1.24 trillion in cash as of December 2011, up 3 percent from 2010's record of $1.2 trillion. The Federal Reserve reports that cash levels among non-financial companies are the highest they've been since the central bank began tracking the figures in 1952.
Even though a growing number of companies pay dividends, Ned Davis Research found the "payout" ratio for S&P 500 companies is still near an 86-year low at 31 percent (the percentage of corporate earnings that are paid out to shareholders as dividends). The average since 1926 is 58 percent.
Dividend-paying stocks fell out of popularity in the 1990s when investors began to focus on stocks that were growing in price by leaps and bounds. But times have changed.
"Companies that are consistently growing, consistently profitable and well-capitalized often offer a dividend to their investors," said Cameron Short, a senior vice president for Downtown investment firm Stifel Nicolaus. "In face of a historically low interest rate environment, many investors are looking for opportunities to invest in companies that are not only paying, but also increasing their dividend over time."
An analysis by DynamicDividend.com of 36 stocks that announced the initiation of a regular dividend since August 2011 shows the average gain by the new dividend stocks of 22.75 percent is substantially better than the 7.09 percent gain posted by the S&P 500 during the same time frame.
Solutia Inc. (SOA) gained a whopping 84.69 percent since initiating a dividend in December 2011; Ebix Inc. (EBIX), 57.83 percent after starting a dividend payout in September 2011; and SMF Energy Corp. (FUEL), a staggering 182.22 percent after initiating a dividend payout to investors in August 2011.
"Dividends may be viewed as making a comeback, but for many investors, they have always remained a core piece of their diversified stock investing and overall asset allocation," said Daniel Dingus, chief portfolio strategist at Fragasso Financial Advisors, Downtown.
"I view it as the tortoise and the hare fable," Mr. Dingus said. "Dividend-paying stocks can be viewed as the tortoise in the story, and we know who won that race -- the steady, consistent tortoise."
For investors nervous about the stock market, the promise of a steady 3 to 6 percent dividend check can calm some of their fears.
But just because a stock pays a dividend doesn't mean the value of the stock can't go down, potentially losing more in value than an investor receives in dividends. Companies also have the prerogative to either reduce or eliminate a dividend payout.
Brian Koble, director of research at Downtown investment firm Hefren-Tillotson, said overseas companies are offering very attractive dividends. For the most part, he said, U.S. companies are hoarding cash, creating a potential for an even more meaningful increase in dividend payouts to investors in the future.
From an investment prospective, there are two kinds of companies he said. One would be companies that pay a high dividend today, but as a consequence are reinvesting little cash back into the business and therefore have modest long-term growth potential. Utilities are the classic example.
Two would be companies with moderate dividend payouts, but which are continuing to reinvest in the business to grow future earnings and dividend payments. Industrial companies fit in this category.
"The first set of companies are very expensive today, as investors are desperate for immediate income," Mr. Kobel said. "The second set of companies is attractively valued, as they've been overlooked by investors who are more interested in immediate than future rewards."
First Published September 27, 2012 12:57 am