Dividend Growers Dominate Other Dividend Categories
Dividend growers outperformed all dividend categories for the past 48 1/4 years with less risk. This is our conclusion based on data provided by Ned Davis Research. The research focuses on dividend payers, non-dividend payers, and dividend cutters. Note that the pattern of dividend growers outperformance holds for both the entire period of analysis and each sub-period (First Table). It also holds that growers experienced lower volatility for both the entire period and each sub-period (Second Table). In this note, we address why we think this phenomenon exists and what it could mean to investors.
Return By Dividend Category (Annual)
[ninja_tables id=”33225″]Volatility By Dividend Category (Annual)
[ninja_tables id=”33232″]Why Do Dividend Growers Generate Superior Risk-Adjusted Returns?
There are five reasons why investors should prefer dividend growers based on years of research and study.
- A component of Gordon’s (1962) constant growth equity valuation model is the growth term. An analyst has some basis for assuming a future growth rate when a stock has had consistent growth in recent years. Yet, it is hard to estimate a future growth rate for a stock without an established track record of growth.
- Lintner (1956) notes that firms raise dividends when earnings rises appear permanent. Thus, firms that increase their dividends assume a positive outlook for profitability.
- Barth (1999) shows that firms with rising earnings achieve higher price-earnings ratios. This, in turn, suggests favorable valuations of consistent dividend payers.
- Dividends instill discipline in companies that facilitate corporate governance and financial health. Paying consistent dividends reduces corporate resources for projects. This, in turn, guides capital to the most productive opportunities.
- Most importantly, we believe dividend growers tend to be of higher quality than broader market issuers. This is evident in earnings quality, earnings level and consistency, and leverage. Dividend growers tend to have superior financial strength, flexibility, and discipline.
How Can Consistently Growing Dividends Benefit Investors?
Dividend growers can provide some downside protection in bear markets and help provide a buffer against rising bond yields. This is because many dividend growers, like technology and industrials, have lower payout ratios and higher earnings growth. By contrast, high yield stocks cluster in highly interest-sensitive sectors, like real estate and utilities, with high dividend payouts and low growth. The stocks of these companies tend to underperform when interest rates increase.
Dividend growers contribute cash flows to investors in a predictable manner. Dividend payouts to investors contribute to long-term total returns when reinvested. Also, investors can use these cash payments to fund retirement and long-term liabilities.
Dividend growers can be an essential component of a diversified portfolio as they exhibit low volatility and imperfect correlation with other assets. These traits are generally seen as positives for wealth accumulation due to a minimal drag on wealth compounding.
Conclusion
Dividend growth makes sense following a year of turbulence and high market valuations. Dividends are predictable and tend to function as a marker of quality. Thus, dividends are a key to long-term success. WCA’s value proposition is to focus on a growing stream of dividends. This contrasts with managers that chase dividend yields, performance, momentum, or other reactive strategies.
Disclosures:
WCA Barometer – We regularly assess changes in fundamental conditions to help guide near-term asset allocation decisions. Analysis incorporates approximately 30 forward-looking indicators in categories ranging from Credit and Capital Markets to U.S. Economic Conditions and Foreign Conditions. From each category of data, we create three diffusion-style sub-indices that measure the trends in the underlying data. Sustained improvement that is spread across a wide variety of observations will produce index readings above 50 (potentially favoring stocks), while readings below 50 would indicate potential deterioration (potentially favoring bonds). The WCA Fundamental Conditions Index combines the three underlying categories into a single summary measure. This measure can be thought of as a “barometer” for changes in fundamental conditions.
Standard & Poor’s 500 Index (S&P 500) is a capitalization-weighted index that is generally considered representative of the U.S. large capitalization market.
S&P Global (SPGI) is a leading American provider of financial information, analytics, and credit ratings, headquartered in New York, NY. It operates major divisions including S&P Global Ratings, S&P Global Market Intelligence, S&P Global Commodity Insights, S&P Global Mobility, and S&P Dow Jones Indices.
The ICE BofA U.S. High Yield Index is an unmanaged index that tracks the performance of U.S. dollar denominated, below investment-grade rated corporate debt publicly issued in the U.S. domestic market.
The S&P 500 Growth measures constituents from the S&P 500 that are classified as growth stocks based on three factors: sales growth, the ratio of earnings change to price, and momentum.
The S&P 500 Value Index measures constituents from the S&P 500 that are classified as value stocks based on three factors: the ratios of book value, earnings and sales to price.
The S&P 500 Equal Weight Index is the equal-weight version of the widely regarded Standard & Poor’s 500 Index, which is generally considered representative of the U.S. large capitalization market. The index has the same constituents as the capitalization-weighted S&P 500, but each company in the index is allocated a fixed weight of 0.20% at each quarterly rebalancing.
The WCA Rising Dividend Custom Benchmark is a rules-based benchmark constructed by Washington Crossing Advisors to represent a universe of large capitalization U.S. companies that meet certain quality and dividend growth criteria, including proprietary screens for profitability, earnings consistency, and balance sheet strength, along with minimum market capitalization and dividend growth requirements. The benchmark is reconstituted and rebalanced quarterly and is intended to serve as a style-appropriate benchmark for the WCA Rising Dividend strategy.
The Washington Crossing Advisors’ High Quality Index and Low Quality Index are objective, quantitative measures designed to identify quality in the top 1,000 U.S. companies. Ranked by fundamental factors, WCA grades companies from “A” (top quintile) to “F” (bottom quintile). Factors include debt relative to equity, asset profitability, and consistency in performance. Companies with lower debt, higher profitability, and greater consistency earn higher grades. These indices are reconstituted annually and rebalanced daily. For informational purposes only, and WCA Quality Grade indices do not reflect the performance of any WCA investment strategy.
The risk of loss in trading commodities and futures can be substantial. You should therefore carefully consider whether such trading is suitable for you in light of your financial condition. The high degree of leverage that is often obtainable in commodity trading can work against you as well as for you. The use of leverage can lead to large losses as well as gains.
The information contained herein has been prepared from sources believed to be reliable but is not guaranteed by us and is not a complete summary or statement of all available data, nor is it considered an offer to buy or sell any securities referred to herein. Opinions expressed are subject to change without notice and do not take into account the particular investment objectives, financial situation, or needs of individual investors. There is no guarantee that the figures or opinions forecast in this report will be realized or achieved. Employees of Stifel, Nicolaus & Company, Incorporated or its affiliates may, at times, release written or oral commentary, technical analysis, or trading strategies that differ from the opinions expressed within. Past performance is no guarantee of future results. Indices are unmanaged, and you cannot invest directly in an index.
Asset allocation and diversification do not ensure a profit and may not protect against loss. There are special considerations associated with international investing, including the risk of currency fluctuations and political and economic events. Changes in market conditions or a company’s financial condition may impact a company’s ability to continue to pay dividends, and companies may also choose to discontinue dividend payments. Investing in emerging markets may involve greater risk and volatility than investing in more developed countries. Due to their narrow focus, sector-based investments typically exhibit greater volatility. Small-company stocks are typically more volatile and carry additional risks since smaller companies generally are not as well established as larger companies. Property values can fall due to environmental, economic, or other reasons, and changes in interest rates can negatively impact the performance of real estate companies. When investing in bonds, it is important to note that as interest rates rise, bond prices will fall. High-yield bonds have greater credit risk than higher-quality bonds. Bond laddering does not assure a profit or protect against loss in a declining market. The risk of loss in trading commodities and futures can be substantial. You should therefore carefully consider whether such trading is suitable for you in light of your financial condition. The high degree of leverage that is often obtainable in commodity trading can work against you as well as for you. The use of leverage can lead to large losses as well as gains. Changes in market conditions or a company’s financial condition may impact a company’s ability to continue to pay dividends, and companies may also choose to discontinue dividend payments.
All investments involve risk, including loss of principal, and there is no guarantee that investment objectives will be met. It is important to review your investment objectives, risk tolerance, and liquidity needs before choosing an investment style or manager. Equity investments are subject generally to market, market sector, market liquidity, issuer, and investment style risks, among other factors to varying degrees. Fixed Income investments are subject to market, market liquidity, issuer, investment style, interest rate, credit quality, and call risks, among other factors to varying degrees.
Beta is a measure of the volatility, or systematic risk, of a security or a portfolio relative to the market as a whole. A beta of one is considered as risky as the benchmark and is therefore likely to provide expected returns approximate to those of the benchmark during both up and down periods. A portfolio with a beta of two would move approximately twice as much as the benchmark.
Standard deviation is a measure of the volatility of a security’s or portfolio’s returns in relation to the mean return. The larger the standard deviation, the greater the volatility of return in relation to the mean return.
Changes in market conditions or a company’s financial condition may impact a company’s ability to continue to pay dividends, and companies may also choose to discontinue dividend payments
This commentary often expresses opinions about the direction of market, investment sector, and other trends. The opinions should not be considered predictions of future results. The information contained in this report is based on sources believed to be reliable, but is not guaranteed and not necessarily complete.
The securities discussed in this material were selected due to recent changes in the strategies. This selection criterion is not based on any measurement of performance of the underlying security.
Washington Crossing Advisors, LLC is a wholly-owned subsidiary and affiliated SEC Registered Investment Adviser of Stifel Financial Corp (NYSE: SF). Registration with the SEC implies no level of sophistication in investment management.
