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Sorry I hide my true identity but I'm a physicist/engineer, native contrarian and idea generator. I am an eclectic dividend investor with motto "In God We Trust, All Others Pay Cash" applied to companies I invest in. I like to read /and read a lot - did you look on my SA photo 8-)? /... More
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  • Dividend Bubble Is Impossible (23 Feb 2012) 18 comments
    Feb 23, 2012 2:13 PM
    Many SA afraid recently about dividend bubble.
    IMO a possibility of dividend bubble is almost zero because dividend stocks have build-in negative feedback mechanism:
    When money shifts to dividend stocks their yield drops and attractiveness of dividend stocks decreases.
    A bubble can appear only in system with positive feedback there a fluctuation has stronger chance to increase rather than to disappear.
    This mathematical truism is well known in natural sciences and engineering for any natural or artificial system (including market).
    The only one exclusion is the case when company increases dividends with stock price to keep yield constant but probability of this is almost zero.
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  • Basically that is true, and it is the same reason that it is hard to get a bubble in VALUE stocks, which is basically all that high dividend payers are.
    Best wishes
    24 Feb 2012, 10:25 AM Reply Like
  • Author’s reply » Larry,
    I think you need to spell out precisely your definition of value stocks first.
    24 Feb 2012, 03:01 PM Reply Like
  • First, it is not my definition, but a standard accepted industry definition.
    Value stocks are those ranked by some combination of price to book, price to earnings, price to sales, price to cash flow. Some use only one screen, like price to book. Others use multiple screens which seems to work better because for some industries p/b doesn't differentiate well (like financials). Industry standard is lowest 30% is value, highest 30% growth and middle part is called core


    Funds can of course create their own buy ranges and buy and hold ranges to get deeper value if they choose, or less value.


    Of course it is possible to have bubble in all stocks, but typically doesn't happen. You get bubble in growth stocks, the new new thing, whatever it is. So in 1990s it was tech, and P/Es of growth stocks went to 50 or more while P/Es of value stocks remained pretty much unchanged, up just a bit.


    For active investors they make up their own definitions which is art purely, their opinions.
    Best wishes
    24 Feb 2012, 05:11 PM Reply Like
  • Author’s reply » Larry,


    Wau! Industry standards .... when I think about industry standards the first idea is distance between rails to make different railroads compatible.... Just joking.... Basically value again fuzzy defined term with strong market dependence. Wasn't it wrong to call for example an internet stock with p/e=100 and small but real sales and cash flow as value one during last tech bubble if the rest internet stocks had no sales at all?


    Let's say company ABC increases dividends with stock price to keep yield constant. Because ABC has finite earnings they cannot do it forever. I guess even if ABC earnings grows with time it is hard to keep the same speed and probably acceleration of earnings in par with stock price. Anyway IMO the negative feedback is more straightforward for dividend stocks.


    24 Feb 2012, 06:06 PM Reply Like
  • I give up.
    Basically all academic papers define it the way I stated. But with p/b as the definition. I gave you other ways to measure value with other metrics because you asked me how I define them. And now the literature is moving to multiple screens because they do a better job than does one. Nothing fuzzy at all. The "technology" is moving forward as we learn more. But this really is getting tiresome playing "word games."


    Thanks for the discussion
    Best wishes
    24 Feb 2012, 06:44 PM Reply Like
  • BTW-posted my second in the series on dividend paying stocks, this time focusing on growth in dividends
    24 Feb 2012, 06:45 PM Reply Like
  • Author’s reply » Larry,


    Let me point again that I'm not an economist and investment is my hobby. Therefore I asked you a lot of probably naive questions because you are professional and I admit your interest to research in your field.


    When we build a model we concerned first of all about correctness of assumptions in physics. When finance scientists build a model they concerned first of all about how close the model and reality numbers are. They are not concern about assumptions and most of assumptions of modern finance are plain wrong or fuzzy. Goal of finance scientists is much their models with real numbers at some time interval or in some country.
    IMO such approach that finance scientists use can perfectly describe what happens already but it predictable value is very questionable.


    My educational and professional background does not allow me to accept such exercises of finance scientists and pundits for investment of my hard-earning money into their fantasies. Some of their ideas are correct and I use them in investment but rest is below scientific standards I use in my professional life and I consider these ideas not useful for this my hobby.


    Thanks for the discussion
    Best wishes
    27 Feb 2012, 11:42 AM Reply Like
  • Larry was simply pointing out investment terminology; Value stocks are the lower third of the market by low PE/low Price to Book (sometimes other similar metrics are used). You can merely take the term or leave it, but that is what is meant. This goes back about a hundred years to the fathers and grandfathers of modern investing (Graham, Buffett, etc); reading a historical book on this might be helpful.
    14 Oct 2012, 09:55 PM Reply Like
  • Author’s reply » caedmon,
    Thank you for comment. As you can guess from picture I selected as my SA logo, I did read several books and papers. Proffi are NOT consistent on definition (as often happens in finance) of value. Some folks use P/E, some P/B, some use 30%, some 20%, etc... Also different definitions for E, B, P coexist (various accounting tricks, P at the end of day or average by week, etc...).
    My point is very simple - it is almost impossible to create positive feedback with dividends, so bubble mathematically impossible.
    15 Oct 2012, 04:25 PM Reply Like
  • Investopedia definition of 'value stocks':
    Definition of 'Value Stock'


    A stock that tends to trade at a lower price relative to it's fundamentals (i.e. dividends, earnings, sales, etc.) and thus considered undervalued by a value investor. Common characteristics of such stocks include a high dividend yield, low price-to-book ratio and/or low price-to-earnings ratio.


    I think it's a fair question to Larry, to see if he had more to add.
    26 Jan, 08:20 AM Reply Like
  • tolls
    It would be simple to have a "bubble" in dividend paying stocks, all you need is investors having an irrational preference for them,. and they overpay for them due to that preference. IMO while not perhaps a bubble per se (meaning to me negative expected real returns relative to a risk free investment like TIPS) we have seen the preference for dividends drive valuations way up for dividend strategies, ensuring lower expected returns


    Now as to specifically a high dividend strategy, that would be extremely hard to see a bubble because like with value stocks then you are talking about stocks with relatively low prices (to some metric). And remember a high div strategy is really nothing more than a value strategy, though a poor one (low premium)


    26 Jan, 02:11 PM Reply Like
  • Author’s reply » I got tired to argue with Larry. He admits that dividends represent at least 50% of return (actually ~ 95% in long run) but ignores this factor.
    26 Jan, 02:20 PM Reply Like
  • SDS
    That's because of the simple fact that the return would have been the same if no dividend paid!!! The foolishness of the argument that returns would have been lower by the amount of the dividend is beyond belief. If that was so how do the 60% of stocks that never pay a dividend ever provide a return, yet they do.
    Dividends have no ADDED explanatory power, which is exactly what theory says and the historical data supports. Now you can protest all you want but all you are doing is shooting the messenger, with no facts or evidence to support it
    27 Jan, 07:53 AM Reply Like
  • Author’s reply » Dear Larry,


    That you call theory is based on incorrect assumptions. It happens in science e.g. with phlogiston ( In real science we trust correct experiment more than any model. Experiments with stock markets in many countries show that in long run dividends + dividend growth are responsible for 75%-100% of stocks returns.


    Sorry I don't want to discuss with you this topic anymore - I have better usage of my time. I strongly recommend you to read books I suggested and write SA article(s) with explanation why these books are wrong or right. After this we might continue the discussion.


    27 Jan, 10:05 AM Reply Like
  • SDS
    First, I have read dozens of papers on dividends, all that are pretty much available from PEER reviewed journals. The fact that someone rights a book doesn't mean it's worth reading. If there is evidence that dividends matter I almost certainly would have read it having read a great amount of the academic literature written over the past 20 years, reading about 20 journals on regular basis.
    second, your statements show an incredible lack of knowledge of basic finance, sorry to say. The fact that US stocks have had about 5% return from dividends and 5% from K gains for total of 10%, you then interpret as the dividends explain half the returns which is sheer nonsense. If you need me to explain why then you need to read some basic finance books. The fact is that stocks that don't pay dividends, like BRK for example, have the same returns as the stocks that do--if they have the same p/e or p/b or other metrics. That is what all the evidence shows. It's also right in line with basic economic theory taught in the most basic finance class.
    And it's a true puzzle in finance why investors even prefer dividends --as the paper by Shefrin and Statman, two of the most respected people in finance explain.
    27 Jan, 09:34 PM Reply Like
  • Author’s reply » Larry,


    I'm not an economist and do not pretend to be it. BTW you should know about mafia in financial journals..... so some good ideas are blocked and not published in PEER financial journals. Also some historical facts about stock markets are probably not suitable for PEER journals. It seems that you do not know these facts.


    US stock data for long period show that ~ 95% of return is due to dividend and dividend growth. I reproduced this number with R. Shiller data. You can neglect this fact if you want.


    Many companies MUST NOT pay dividends. I don't know how separate investment from speculation if a person deal ONLY with such companies.


    I rather create value for society than extract it from society as most financial advisors do. Probably this is one of the reasons I invest only in companies which pay dividends and not in all such companies. I sure that such companies create value for society and for their shareholders. Another reason - I do not trust CFOs (I know that most of then have high integrity but I don't have enough skills to separate "bad apples").


    Sorry I cannot spend my valuable time for useless discussions if my opponent refuse to read something I suggest. If I suggest - I think it is good.... BTW I have suggested some of your books.....


    28 Jan, 12:49 AM Reply Like
  • SDS
    That's right there is a conspiracy against dividends by academics?
    Give me a break.
    And if dividend explained 50% of the returns how is it that the 60% stocks that never paid dividends have the same basic return. That is what the paper showed on the last 20 years? Clearly you cannot have it that the dividends explained the returns if the companies that don't pay them have the same returns.
    I don't have time to read every single book. If you want to read important books on the state of the art try books like The Physics of Wall Street (as a supposed scientist you should find that of value) or Expected Returns which summarizes all the evidence on returns. Or the literature.
    Since you have read the books why don't you explain the message, and see if the books address the historical evidence or just offer opinions


    28 Jan, 08:07 AM Reply Like
  • Author’s reply » Larry
    I don't want to spend my valuable time to discuss anything with person who refuses to read books I suggested.
    BTW I already read The Physics of Wall Street (so-so in my mind. Real academic books on Econophysics are better) and Expected Returns (excellent book but not final word IMO).
    28 Jan, 09:29 AM Reply Like
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