Dividends Really Pay for Investors over Time

by Alexander Green

Believe it or not, when it comes to the stock market, most investors prefer glamor to profits.

Why do I say this? Tell the average investor about a company with a cutting-edge technology, an exciting Phase III drug or a new gold strike and they’re all ears.

But tell them about a blue-chip stock with steady sales, a big order backlog and rising stock dividends and they’re more likely to stifle a yawn.

That’s unfortunate. Because, contrary to what most investors believe, innovation is not always a great predictor of business success. As Andrew Carnegie famously said, “Pioneering don’t pay.”

Nor is a young company that’s just feeling its oats - and retaining all its earnings - likely to be the best long-term investment. It’s a well-known fact that four out of five new businesses fail in the first five years.

What really makes money for investors over time - and without the hair-raising volatility of growth stocks - is steady businesses paying stodgy old dividends.

Stock Dividends - Cash In Your Account is a Sure Thing

As my Investment U colleague Mark Skousen writes in his book “EconoPower,” “Earnings may be suspicious due to creative accounting. Revenues can be booked in one year or several years. Capital assets can be sold and the value listed as ordinary income. But cash paid into your account is a sure thing, a litmus test of the company’s true earnings. It’s tangible evidence of the firm’s profitability.”

Regular payouts impose fiscal discipline on a company. And history reveals that dividend-paying stocks are both less risky and more profitable than most stocks.

Dr. Jeremy Siegel, a professor of finance at The Wharton School of the University of Pennsylvania, has done a thorough historical study of various asset classes.

In his book “The Future for Investors” - endorsed by such investment luminaries as Robert Shiller, Peter Bernstein and Barton Biggs - he demonstrates that one of the best keys to success is focusing on tried and true stocks that pay steady, rising dividends.

“The constant pursuit of growth - through buying hot stocks, seeking out the next big thing, or investing in the fastest growing countries - dooms investors to poor returns,” says Siegel. His research shows that high-dividend payers have outperformed the market by a wide margin over the years.

Stock Dividends & The Dogs of the Dow

That’s the reason for the great popularity of the Dogs of the Dow strategy. You simply buy the 10 highest-yielding Dow stocks and then replace them a year later with a new list. It doesn’t produce the best results every year. But this simple strategy has delivered excellent long-term results, beating the broad market handily since 1973.

If you’re going to buy individual stocks, do your homework. See how long the company has been paying its dividend. Gauge how secure it is by looking at the company’s cash position, sales and expenses (especially debt service).

Trust me, a dividend from a highly leveraged company with declining fortunes and low cash levels will not be maintained. (This is especially true today in the banking and brokerage industries.)

Still, there are a number of attractive stock dividend payers out there right now. We’ll be talking about several of them in the weeks ahead.

In the meantime, conservative investors may want to take a diversified approach by buying a dividend-oriented fund like WisdomTree Total Dividend (NYSE: DTD), currently yielding 5.3%.

Comments

[donzelion:]

Dividends are certainly an important indicator, but there's no such thing as incontrovertible "proof" of fiscal discipline. Management can always create an appearance of discipline, without necessarily creating the reality (remember, AIG boosted its dividend in 2008, and Citibank has been a serious dividend grower for many years). I want to know that a company properly balances interests of investors, customers, and employees. (That is, the company either pays me a dividend, buys back shares, or gives me a really good reason not to.)

In emerging markets, however, every equity should be viewed as a "dot-com" until it proves itself otherwise. If management robs the investors in a developed country, management goes to jail. In emerging markets, however, managers can rip off foreign investors, then either disappear or become local heroes. Only companies that prove that they are effective stewards of capital deserve investment; every other company is merely creating a piggy bank for well-positioned management.

Hence, I prefer Wisdom Tree's DEM to Vanguard's VWO even though the fees are 3x higher, but I'll stay with Vanguard's VTI at home.

Feb 16 07:14 AM

[ArtfulDodger:]

This is good info to log for all investors.

You're certainly right about most of us going for the glamor. It takes discipline not to go that route.

Feb 16 09:39 AM

[mouth:]

DIVIDEND TALK HAS BECOME THE RAGE, FOLLOWED BY DIVIDEND CUTS. IT IS INTERESTING THAT THE ARTICLE TALKS ABOUT RETURNS FROM 1973/74.
HOW ABOUT FROM 2000 OR FROM 1995?

Feb 16 02:21 PM

[Adam Carinc...:]

I too bought into the theory and logic of dividend investing. It does have merits, however, it is far from a great investment strategy. Just look at the recent carnage...BOA, GE, PFE. Now I subscribed to the dividend-reinvestment policy for years, socking money and reinvested dividends into the above companies. All with many many years of solid dividend payments. So, the market turns sower, I should be reletively protected right. Wrong. Some of the stocks dropped even worse than the market. Others chopped the dividend massively.

What have I learned from this. Dividend reinvestment is a false hope. It sounds fantastic in theory, but in reality, I feel it is much better to take a sure thing in the present (actually collect the cash dividend) than hope and pray the the reinvested dividend is worth something down the line. More often than not, the present value will in all likelihood exceed the future, hoped for gains. Take the money now.

Feb 17 05:25 AM