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BY DR. DAVID EDWARD MARCINKO; MBA MEd CMP™
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SPONSOR: http://www.MarcinkoAssociates.com
DEFINITION
If the definition of a security is title to a stream of cash flows, then the dividends a company is expected to pay to equity shareholders on a periodic basis (e.g., quarterly) are a clear source of return for an investor. A dividend is simply a distribution of (some portion of) the company’s earnings to equity shareholders. Like a bond yield, a stock’s dividend yield can be used to measure the income return on the stock.
To determine a stock’s dividend yield, the trailing year’s dividends per share paid are divided by the current stock price. However, a key difference between a dividend yield and a bond yield is the level of certainty that can be assumed regarding future payments, since a bond’s coupon is generally predetermined and its payment is expected to be senior to the payment of dividends.
After a company has determined that it has earned a profit, management has to decide what to do with those profits. One choice is to distribute the earnings to shareholders in the form of dividends, while another option is to reinvest the profits in the company. A company’s management may determine that the shareholders interest is best served by using the earnings to pursue growth opportunities (e.g., capital expansion, research & development, etc.) at the corporate level. Thus, when management believes that its investment opportunities are likely to produce a higher return than what investors’ could generate with their dividends or that reinvestment is needed to maintain its financial strength, the company will retain the earnings.
One of the biggest myths in investing is capital appreciation accounts for the largest part of investors’ gains. Dividends, or cash payments to shareholders, actually account for a substantial part of an equity investor’s total return. In fact since 1926, dividends have accounted for more than 40% of the total return of the S&P 500 stock index. In the last decade (2000-2009), the S&P 500’s total return of -9% would have been a heftier loss of -24% had it not been for the 15% contribution from dividends.
History has shown that dividends have been a powerful source of total return in a diversified investment portfolio, especially during periods of market turbulence. In examining the prior eight decades of stock market performance, dividends often account for more than 2/3 of the total return (1930s, 1940s, 1970s, & 2000s). If an investor avoided dividend paying stocks during these elongated time periods, most of the total gains would be lost.
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| DIVIDEND CONTRIBUTION OF S&P 500 RETURN BY DECADE | ||||||
| S&P 500 | Cumulative | Dividends | Average | |||
| Price % | Dividend | Total | % of Total | Payout | ||
| Years | Change | Contribution* | Return | Return | Ratio** | |
| 1930s | -41.9% | 56.0% | 14.1% | >100% | 90.1% | |
| 1940s | 34.8% | 100.3% | 135.0% | 74.3% | 59.4% | |
| 1950s | 256.7% | 180.0% | 436.7% | 41.2% | 54.6% | |
| 1960s | 53.7% | 54.2% | 107.9% | 50.2% | 56.0% | |
| 1970s | 17.2% | 59.1% | 76.4% | 77.4% | 45.5% | |
| 1980s | 227.4% | 143.1% | 370.5% | 38.6% | 48.6% | |
| 1990s | 315.7% | 117.1% | 432.8% | 27.0% | 47.6% | |
| 2000s | -24.1% | 15.0% | -9.1% | >100% | 35.3% | |
| 2010s | 27.9% | 8.4% | 36.3% | 23.1% | 28.4% | |
| as of 12/31/12 | ||||||
Source: Strategas
During those decades such as the 2000s where the stock market struggled to advance, dividends were a significant element for investor survival. This is not only due to the dividends alone, but also the risk element of stocks that pay dividends. Dividend stocks have historically provided lower overall volatility and stronger downside protection when markets decline. Since 1927, dividend stocks have consistently held up better than the broader market during downturns. You can measure downside risk through a statistic known as downside capture ratio.
Downside capture ratio is a statistical measure of overall performance in a down stock market. An investment category, or investment manager, who has a down-market ratio less than 100 has outperformed the index during a falling stock market.
For example, a down-market capture ratio of 80 indicates that the portfolio measure declined only 80% as much as the index during the period. The downside capture ratio of high-dividend-yielding stocks, since 1927, has been 81% or lower over various long-term periods. Put a better way, during months that the S&P 500 stock index fell, dividend stocks declined by nearly 19% less than the broader market.
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| DOWNSIDE AND UPSIDE CAPTURE RATIOS OF HIGH DIVIDEND STOCKS – 1927 TO 2011 | ||
| The lower the number, the better | ||
| Downside | ||
| Since 1927 | 81.53 | |
| 50-year | 67.45 | |
| 30-year | 65.86 | |
| 20-year | 65.83 | |
| 10-year | 81.61 | |
Source: Kenneth French as of 12/31/11
SPEAKING: Dr. Marcinko will be speaking and lecturing, signing and opining, teaching and preaching, storming and performing at many locations throughout the USA this year! His tour of witty and serious pontifications may be scheduled on a planned or ad-hoc basis; for public or private meetings and gatherings; formally, informally, or over lunch or dinner. All medical societies, financial advisory firms or Broker-Dealers are encouraged to submit a RFP for speaking engagements: CONTACT: MarcinkoAdvisors@outlook.com
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