Category Archives: Dividends

Dividends and Income

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“Income and cash flow are the priority in retirement.”

A dividend is a payment made from a company to its shareholders – often quarterly, but sometimes monthly. Dividends are a way for shareholders to participate and share in the growth of the underlying business above and beyond the share price’s appreciation.

Dividends are cash payments made on a per-share basis to investors. For instance, if a company pays a dividend of 20 cents per share, an investor with 100 shares would receive $20 in cash. Stock dividends are a percentage increase in the number of shares owned. If an investor owns 100 shares and the company issues a 10% stock dividend, that investor will have 110 shares after the dividend.

When publicly traded companies have extra cash on hand, it gives the management team some flexibility and options. With some extra cash, they can:

  • Take that money and invest it back in the business – they might do that through expanding existing operations, building factories, possibly acquiring another company that can help them grow.
  • Take that money and buy back shares of its own company – this strategy reduces the number of ways ownership of the company is sliced up, increasing the ownership. or
  • They can pay out some of that money to people who own shares of the company as a way to “share the wealth” and reward them for owning the business (dividend)

Dividends vs. Bonds

Bonds are obligated to pay interest to bondholders on a regular basis, but there’s no obligation for a company to pay dividends. When income from dividend producing assets decline, retirees may realize they don’t have enough cash flow to pay all their expenses. In order to save cash, some non-essential expenses are often cut or eliminated.

Investors who rely on income, especially those in retirement, tend to gravitate to dividend stocks because bonds pay so little. They could be in for a big shock. Many steady dividends payers have said they will cut their dividends (AT&T) or eliminate them completely (Boeing). For people who live off of dividends, a severe cut would significantly affect the amount of money they have to live on.

Additionally, dividends are taxed at the more favorable capital gains tax rates. This can be an important benefit for retirees who likely don’t have a lot of write-offs,

Long-term investors should focus on total return (capital gains plus dividend income) when thinking about how to invest your retirement savings.

Dividends importance to total equity returns over the long term cannot be overstated. Ibbotson Associates data from 1927 to 2002 show that more than 40% of the compound annual growth of its large-cap equity index can be attributed to dividend payouts. That said, the contribution of dividends over shorter periods can exhibit a fair amount of disparity. Indeed, over the decades, it has ranged from a low of about 15% in the 1990s to a high of 71% in the 1970s.

Graphing the difference between ten-year compounded growth rates from dividends and capital appreciation for the years 1947 through 2002, a picture of alternating leadership begins to appear. Clearly, capital appreciation has been dominant in periods of lower inflation and stable interest rates due to the positive impact that it has on price-to-earnings (P/E) multiples. On the other hand, dividends have carried most of the burden of equity market returns in periods of higher inflation and volatile interest rates when P/E multiples were contracting.

Consider all streams of income — Social Security, pensions, IRAs, part-time work — when devising a broader strategy (and tax plan) for your retirement years. Given that “investors using dividend-paying stocks for income must have a strong constitution,” says Richard Steinberg, chief market strategist at The Colony Group.

Dividends are not guaranteed and are paid at the discretion of the board of directors. Unlike a bond, which must pay a contracted amount or be in default, the board of directors can decide to reduce the dividend or even eliminate it at any time.

References:

  1. https://money.usnews.com/investing/investing-101/articles/how-to-live-on-dividend-income
  2. https://money.usnews.com/investing/investing-101/articles/what-are-dividends-and-how-do-they-work

Dividend Growth Stock Investing

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Dividend growth stocks, known for steady dividend increases over time, can be valuable additions to your income portfolio.

Since 1926, dividends have accounted for more than 40% of the return realized by investing in large-cap U.S. domestic stocks, according to American Association of Individual Investors. The 9.9% historical annualized return for stocks is significantly impacted by the payment of dividends. Research shows that if dividends were taken out of the equation, the long-term annual return for stocks would fall to 5.5%.

Dividend stocks have long been a foundation for steady income to live on and a reliable pathway to accumulating wealth for retirement. Even in times of market stress, companies could be counted on to do everything possible to maintain their payouts. Most dividend-paying companies follow a regular calendar schedule for distributing the payments, typically on a quarterly basis. This gives investors a reliable source of income.

This stream of income helps to boost and protect returns. When stock prices move upward, dividends enhance shareholders’ returns. Shareholders get the benefit of a higher stock price and the flow of income; when combined, these elements create total return. Dividend payments provide a minimum rate of return that will be achieved, as long as the company does not alter its dividend policy. This helps cushion the blow of downward market moves.

Yet, dividend stocks typically don’t offer dramatic price appreciation, but they do provide investors with a steady stream of income.

“I do not own a single security anywhere that doesn’t pay a dividend, and I formed a mutual-fund company with that very simple philosophy.” Kevin O’Leary

Kevin O’Leary, known to many as “Mr. Wonderful”, is Chairman of O’Shares Investments and can be seen on the popular TV show Shark Tank, invests only in stocks that have steady “cash flow” and “pay dividends” to shareholders.  He looks for stocks that exhibit three main characteristics:

  1. First, they must be quality companies with strong financial performance and solid balance sheets.
  2. Second, he believes a portfolio should be diversified across different market sectors.
  3. Third, and perhaps most important, he demands income—he insists the stocks he invests in pay dividends to shareholders.

Kiplinger

Power of Dividend Investing

Dividends are a commitment by a company to distribute a portion of its earnings to shareholders on a regular basis. Once companies start paying a dividend, they are reluctant to cut or suspend periodic the payments.

Dividends are payments that companies make to shareholders at regular intervals, usually quarterly. Dividends and compounding may be a strong force in generating investor returns and growing income.

Dividend-paying stocks are not fancy, but they have a lot going for them. Dividends have played a significant role in the returns investors have received during the past 50 years. Going back to 1970, 78% of the total return of the S&P 500 Index can be attributed to reinvested dividends and the power of compounding.

“High” dividend yield stocks beat “Highest”

Investors seeking dividend-paying investments may make the mistake of simply choosing those that offer the highest yields possible. A study conducted by Wellington Management reveals the potential flaws in this thinking.

The highest-yielding stocks have not had the best historical total returns despite its ability to pay a generous dividend. The study found that stocks offering the highest level of dividend payouts have not always performed as well as those that pay high, but not the very highest, levels of dividends.

With the economy in recession, equity income investors may be at risk of dividend cuts or suspensions in their portfolios. Dividend quality matters more today than it has in a long time. Thus, it’s important to select high quality U.S. large-cap companies for their profitability, strong balance sheets and dividend quality, which increase the likelihood that they will be able to maintain and grow dividends paid to investors even during periods of economic uncertainty.

Income-producing dividend stocks

Dividends have historically played a significant role in total return, particularly when average annual equity returns have been lower than 10% during a decade. Seek dividend stocks that possess the following characteristics:

  • Currently pays a dividend;
  • Dividend yield above bench mark yields;
  • Higher dividend payments this year relative to last year, or a reasonable expectation that future dividend payments will be raised (in certain cases, a company that recently initiated a dividend will be considered if there is a reasonable expectation that it will increase its dividend in the future);
  • A free-cash-flow payout ratio below 100%(utility stocks are allowed to have a ratio above 100% if free cash flow is positive when calculated on a pre-dividend basis);
  • Improving trends in sales and earnings;
  • A strong balance sheet, as measured by the current ratio and the liabilities-to-assets ratio;
  • An attractive valuation, as measured by the price-earnings ratio;
  • Has no more than one class of shares; and
  • Dividends are paid as qualified dividends, not non- dividend distributions.

Dividend Growth Key to Outperformance

You should invest in corporations that consistently grow their dividends, have historically exhibited strong fundamentals, have solid business plans, and have a deep commitment to their shareholders. They also demonstrate a reasonable expectation of paying a dividend in the foreseeable future and a history of rising dividend payments.

You should also take into consideration the indicated yield (projected dividend payments for the next 12 months divided by the current share price) for all stocks, but place a greater emphasis on stocks with the potential to enhance the portfolio’s total return than those that merely pay a high dividend.

The market environment is also supportive of dividends. A pre-pandemic strong US economy has helped companies grow earnings and free cash flow, which resulted in record levels of cash on corporate balance sheets. This excess cash should allow businesses with existing dividends to maintain, if not grow, their dividends. And while interest rates have risen from historic levels, they’re expected to stay stable for another year or so. This means dividend- paying stocks should continue to offer attractive yields relative to many fixed-income asset classes.

Furthermore, dividend growers and initiators have historically provided greater total return with less volatility relative to companies that either maintained or cut their dividends. There is ample evidence that dividend growers outperform other stocks over time with much lower volatility. For instance, a Hartford Funds study of the past 50 years showed dividend growers outperforming other dividend payers by 37 basis points annually and non-dividend payers by 102 basis points.

One reason dividend growers tend to outperform may be the expanding earnings and cash flow and shareholder-friendly management teams that often characterize these companies. In addition, consistent profitability, solid balance sheets and low payouts enable dividend growers to weather any economic storm.

Trends that bode well for dividend-paying stocks include historically high levels of corporate cash, historically low bond yields, and baby boomers’ demand for income that will last throughout retirement.

Traits of consistent dividend payers

Today’s historically low interest rates have caused investors to invest heavily in dividend- paying stocks and strategies, which has helped bolster their performance. This trend shows no sign of abating as long as interest rates continue to remain relatively low, and demand for these investments will only grow as investors continue to seek income and return.

Here are several financial traits investors should look for in consistent dividend payers:

  • Relatively low payout ratios. A payout ratio measures the percentage of earnings paid out as dividends. The median is 38% for S&P 500 companies, according to Goldman Sachs. In theory, the higher the ratio, the less financial flexibility a company has to boost its dividend
  • Reasonable debt levels. As with payout ratios, this isn’t a one-size-fits-all metric. But if a company has a big debt load, there’s less cash available for the dividend.
  • Strong free cash flow. This typically measures operating cash, minus capital expenditure. It’s important for a company to cover its dividend with its free cash flow.
  • Stable earnings growth. Put another way, dividend investors should be wary of companies with volatile earnings, which can pressure the ability to maintain, let alone raise, payouts.

It’s important to know that not all dividends are treated the same from a tax perspective.

There are 2 basic types of dividends issued to investors:

  • Qualified dividends: These are dividends designated as qualified, which means they qualify to be taxed at the capital gains rate, which depends on the investor’s modified adjusted gross income (MAGI) and taxable income (the rates are 0%, 15%, 18.8%, and 23.8%). These dividends are paid on stock held by the shareholder, which must own them for more than 60 days during the 121-day period that begins 60 days before the ex-dividend date. This means if you actively trade stocks and ETFs, you probably can’t meet this holding requirement.
  • Nonqualified dividends: These dividends are not designated by the ETF as qualified because they might have been payable on stocks held by the shareholder for 60 days or less. Consequently, they’re taxed at ordinary income rates. Basically, nonqualified dividends are the amount of total dividends minus any portion of the total dividends treated as qualified dividends. Note: While qualified dividends are taxed at the same rate at capital gains, they cannot be used to offset capital losses.

Dividend growth stocks, known for steady dividend increases over time, can be valuable additions to your income portfolio. A dividend grower typically has a cash-rich balance sheets, formidable cash flow and meager payouts allowing room for more dividend growth. Additionally, dividend growth stocks can provide an hedge against inflation by providing a bump in income every time the dividend is hiked.

References:

  1. https://www.aaiidividendinvesting.com/files/pdf/DI_UsersGuide_12.pdf
  2. https://www.hartfordfunds.com/dam/en/docs/pub/whitepapers/WP106.pdf
  3. https://www.kiplinger.com/investing/stocks/dividend-stocks/602692/dividend-increases-stocks-announcing-massive-hikes
  4. https://www.valdostadailytimes.com/news/business/kevin-o-leary-says-thanks-a-billion-as-aum-passes-1-0-billion-for-o/article_0c22d134-4004-5bc5-868b-c705e26194cc.html
  5. https://vgi.vg/37Gls7y

Past performance does not guarantee future results. Dividend-paying stocks are not guaranteed to outperform non-dividend-paying stocks in a declining, flat, or rising market.

Kevin O’Leary: Financial Freedom

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Dividends have produced forty percent (40%) of market returns.

The Ten Steps to Financial Freedom, according to Kevin O’Leary, Chairman of O’Shares ETF, and better know as “Mr. Wonderful”,  are::

  1. Get committed to a plan. Start by coming up with a clear “why”. Know your purpose and incentives for wanting to achieve financial freedom.
  2. Know your numbers. You must create a budget.
  3. Cost planning. Live within your means. Think twice before spending. Cut cost in order to save 10% to 15% of every paycheck.
  4. Go to war against debt and never surrender. Debt is the opposite of passive income; it erodes your asset base while you sleep. Don’t indulge your inner spending.
  5. Income plan. Focus on increasing income more than decreasing spending. Earning more is key. Before you spend, save. Invest surplus cash before you spend. Purchase assets that pay cash flow like dividend stocks, bonds or rental real estate.
  6. Emergency planning. Your the CEO of the business of your own life. Have cash reserve of three to six months of essential expenses. Remember, your psychology is always working against you and achieving financial freedom.
  7. If it matters, measure it. Know your expenses and income. Keep track of everything to ensure you can course correct if something goes wrong.
  8. Tax planning. Think about how much money you can save with simple tax planning. Use traditional IRA or Roth IRA. Also, consider donating to charities.
  9. Financial advisor. Hire a financial coach to help manage your money.
  10. Freedom formula. Freedom is when you have enough passive income generated from your assets to cover your essential expenses.

https://youtu.be/HsUQoEOu_bE

A Dividend-Growth Investment Strategy

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“Dividend stocks can provide investors with predictable income as well as long-term growth potential.”  Motley Fool

Dividend stocks have faced strong headwinds, including payout cuts and suspensions as efforts to fight the pandemic have hampered corporate cash flows.

Yet, investors who have a moderate risk tolerance should consider pursuing a proven dividend-growth investment strategy for income and return in volatile markets.  In volatile markets, protecting current income becomes more important than ever for investors.  But you also want to satisfy your need for current income and capital growth.

Dividend-paying stocks tend to provide more defensive protection in adverse market environments and they tend to grow over time and protect your real purchasing power. Dividend-paying stocks also tend to have more of a value orientation.

When dividend stocks go up, you make money. When they don’t go up — you still make money (from the dividend). When a dividend stock goes down in price, it’s not all bad news, because the dividend yield (the absolute dividend amount, divided by the stock price) gets richer the more the stock falls in price.

Historically, stocks with rising dividends greatly outpaced the dividend cutters or non-dividend-paying stocks. Further, if you focused on rising-dividend stocks over non-dividend-paying stocks, you would have increased your investment by an average of 4.3% per year over this nearly 48-year study.

pexels-photo-164527

So, a $10,000 investment in non-dividend-paying stocks made at the beginning of this study, growing at an average annual return of 8.57%, would be worth over $500,000 today.

However, the same $10,000 investment in dividend growers over the same period at a 12.87% average annual return would be worth an incredible $3.24 million!

That’s not the only benefit. Returns from dividends have also exhibited a lower standard deviation, or variability, over time. Since the overall volatility of a stock’s total return is typically dominated by its price movements, dividends contribute a component of stability to that total return.

Looking for good dividend-paying stocks

Despite challenging economic times, certain companies have grown their dividends during previous downturns; there may be precedent for their willingness and ability to grow their dividends again.  While much remains uncertain, the highest-quality companies have proven their ability to grow their dividends over time.  They have demonstrated an ability to survive through a range of market environments, even raising dividends during and after previous recessions.

These companies prioritize sustaining dividends in challenging times. They are dividend-paying royalty.  However, it’s advised to avoid stocks with very high yields since they could be prone to dividend cuts or suspensions.  Seek dividend stocks with a fortress balance sheet providing solid cash flow, reasonable dividend payout yield, above average earnings growth and little to no debt.  Avoid companies with heavier debt loads, as measured by net debt (debt minus cash) to earnings-before-interest-taxes-deprecation-and amortization (EBITDA) ratios.

Investors seeking dividend sustainability need look no further than the Dividend Aristocrats: a list of companies within the S&P 500 index that have increased their dividend payouts consecutively for 25 years or more.  The 64 S&P 500 Dividend Aristocrats have raised their dividends in an era that spans the Iraq wars, the Sept. 11 terrorist attacks, the Great Recession, and now the novel coronavirus pandemic.

But while the Dividend Aristocrats list is a great place to start for identifying dividend stalwarts, you are advised to avoid the highest-yielding stocks—some of which can be value traps or worse.  It is okay to look for companies that are paying a decent amount of their earnings back in the form of income, but if the price moves too high and their dividend yield drops, then you’ll sell the stock and capture the gains.

Additionally, under the recently passed 2020 CARES Act, “companies that borrow money from the federal government may not repurchase stock, pay a dividend, or make any other capital distributions until 12 months after the loan is repaid in full,” according to Goldman Sachs.

Investors should always consider their investment objectives, their comfort level and risk tolerance before investing. And, they should keep in the forefront of their mindset that investment plans do not need to change in periods of high volatility since they should be based on five years or longer time horizon.

References:

  1. https://www.fool.com/investing/stock-market/types-of-stocks/dividend-stocks/
  2. https://www.aaiidividendinvesting.com/subscribe/diLP.html?utm_source=facebook&utm_medium=Facebook_Desktop_Feed&utm_campaign=all_leads&utm_content=DI%20Long%20Form%20DCO&adset=di_bundle&fbclid=IwAR1enL0oTxkF5E5phIBVJ1dGk4VYQ_OV6a2RCXNDh-lgeNOFtkxcoXWLJn0

Dividends Income Strategy

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“Do you know the only thing that gives me pleasure? It’s to see my dividends coming in.” John Rockefeller, founder of the Standard Oil Company

For retirees, dividends are a source for cash flow and a great form of income security in their post work years. For smart investors, dividend investments represent one of the closest things they can find to guaranteed income and possible capital appreciation.

John D. Rockefeller, founder of the Standard Oil Company and the world’s first billionaire, was a vocal advocate of dividends. He once commented that, “Do you know the only thing that gives me pleasure? It’s to see my dividends coming in.”

Dividend investing provides a steady income stream from the distributions of a company’s earnings to its shareholders. It works well for investors looking for long-term growth and for individuals preparing for or living in retirements who have a lower risk tolerance.

Dividend stocks are companies that pay shareholders a portion of earnings, or dividend, on a regular basis. These payments are funded by profits that a company generates but doesn’t need to retain to reinvest in the business. Dividend stocks are a major factor in the total return of the stock market. About 3,000 U.S. stocks pay a dividend at any given time.

Divdend income investor.

Dividend paying stocks are major sources of consistent income for investors. They can create income and wealth when returns from the equity market are highly volatile or at risk. Essentially, dividend–paying stocks have become an attractive alternative to bonds for investors looking for a reliable stream of investment income.

Companies that pay dividends generally act as a hedge against economic uncertainty and provide downside protection by providing payouts or sizable yields on a regular basis. If you’re looking to build wealth or generate income, dividend stocks are pretty hard to beat.

Dividend-focused stocks do not offer much price appreciation in strong bull markets. However, they do offer a steady stream of income along with the potential of capital gains. These are the major sources of consistent income for investors to create wealth when returns from the equity market are at risk.

Companies that pay out dividends generally act as a hedge against economic uncertainty or downturns. They tend to provide downside protection by offering payouts or sizable yields on a regular basis.

Dividend stocks offer solid returns in an era of ultralow bond yields and also hold the promise of price appreciation. The S&P 500 index’s yield was recently around 1.9%, about even with that of the 10-year U.S. Treasury note.

Dividends also offer a number of advantages beyond income, one being that qualified dividend income is taxed as a capital gain and at a lower rate than ordinary income receives. The top federal capital-gains tax rate is 23.8%. Payouts can also help buffer volatility in tumultuous markets, providing returns even during a market decline.

Dividend stocks can reduce the amount of volatility or beta in a portfolio. Essentially, dividend investing is boring, and lacks the thrill of a small cap tech stock with exponential revenue growth and avoids the volatility of small caps.

Dividend Payout Date

Getting a regular income from the companies investors own are a testament to their discipline, the health of their business, and their confidence in its future. Companies will announce when their dividend will be paid, the amount of the dividend, and the ex-dividend date. Investors must own the stock by the ex-dividend date to receive the dividend.

The ex-dividend date is extremely important to investors: Investors must own the stock by that date to receive the dividend. Investors who purchase the stock after the ex-dividend date will not be eligible to receive the dividend. Investors who sell the stock after the ex-dividend date are still entitled to receive the dividend, because they owned the shares as of the ex-dividend date.

Dividend Payout Ratio

Dividends are typically paid from company earnings, but not all dividends are created equally. If a company pays more in dividends than it earned, then the dividend might become unsustainable. Comparing dividend payments to a company’s net profit after tax is a simple way of reality-checking whether a dividend is sustainable.

Unless there are extenuating circumstances, from the perspective of an investor who hopes to own the company for many years, a dividend payout ratio of above 100% is definitely a concern.

Another important check is to see if the free cash flow generated is sufficient to pay the dividend, which suggests dividends will be well covered by cash generated by the business and affordable from a cash perspective.

Still, if the company repeatedly paid a dividend greater than its profits and cash flow, investors should be concerned. Extraordinarily few companies are capable of persistently paying a dividend that is greater than their profits.

High Dividend Yield

A high dividend yield strategy does have several drawbacks. Those disadvantages include vulnerability to rising interest rates and the potential exposure to financially challenged companies that may have trouble maintaining and growing dividends. Since the stock prices of firms with stable cash flows tend to be more sensitive to fluctuations in interest rates than those with more-volatile cash flow streams.

With lower interest rates and the stock market trading at near all-time highs, the high dividend paying stocks and ETFs could be excellent picks at present. Dividend ETFs provide investors with a diversified portfolio of dividend-paying stocks that allows you to invest and collect income without having to do nearly the amount of research you’d need before buying a large number of the individual components.

Another source of income are preferred stocks. Preferred stocks are known for offering higher dividends than their common stock counterparts. In fact, they can be viewed as a safe haven in case of a market pullback as the S&P 500 is up nearly 24% so far this year.

Stocks with a history of above-average dividend yields typically can be a sign of companies with deteriorating business fundamentals. While that can be the case in certain situations, there are many companies with strong underlying fundamentals that are some of America’s largest and most stable companies.

Bottom line, don’t fall for a high dividend yield in a vacuum. It may not paint an accurate picture of the stock’s potential. Instead, look at the company’s fundamentals and determine how dividend payouts change over time. That may indicate a company’s financially stability. Also, it may illustrate long-term dividend potential.

Dividend-Growth Strategies

An investor should not buy dividend stocks just for the sake of dividends to generate income…they should also be seeking capital appreciation to keep up with inflation and mitigate the risk of the long term loss of buying power of the dollar, as well. The most successful dividend investors seek dividend paying stocks that have the potential to grow their dividend each year.

Dividend payers with a history of dividend growth over a prolonged stretch (10 years’ worth of dividend hikes) tend to be highly profitable, financially healthy businesses. While dividend growers prioritize delivering cash to their shareholders, they’re balancing that against investing in their own businesses. Such firms have often held up better than the broad market, as well as the universe of high-yielding stocks, in periods of economic and market weakness.

During the market downturn from early October 2007 through early March 2009, dividend appreciation stocks, such as Dividend Aristocrats, held up better as a category versus the broad market and versus high dividend yield benchmark.

Dividend-growth strategies also look appealing from the standpoint of inflation protection, in that income-focused investors receive a little “raise” when a company increases its dividend. Dividend-growth stocks will tend to hold up better in a period of rising bond yields than high-yielding stocks. That’s because dividend-growth stocks’ yields are more modest to begin with, so they’re less vulnerable to being swapped out when higher-yielding bonds come online.

The dependability of dividends is a big reason to consider dividends when buying stocks. Not every stock pay a dividend, but a steady, dependable dividend stream can provide a nice boost to a portfolio’s return.

Sources:

  1. https://finance.yahoo.com/news/dividends-capital-gains-differ-195903726.html
  2. https://www.fidelity.com/learning-center/investment-products/stocks/all-about-dividends/why-dividends-matter