wolfdog

Trading the Dow: What History Tells Us

I have just completed a projection of what DOW dividends will be for '09. It is highly likely that the dividend paid will decline yr/yr owing to div cuts at BAC and C. And possible cuts at AA and JPM. And GM's div decline as well although now that GM is almost a microcap stock, the keepers of the index have a big decision to make, does GM stay in or go?

Based on my estimate, DOW div will decline about 6%. And I calculate the current yield at 3.6%, which is somewhat less than the near-4 mentioned in this article.

But the more important issue is that it looks like the trend of the DOW div yield is inexorably up, since bottoming in 2000. If we are lucky, the yield will stay range bound as the author suggests, between 3 and 4% as was the case 1960 - 73. More ominously, and the case I favor slightly at this time, the yield will march higher toward 5 or even 6% over the next several years.

What could cause this? Investor repugnance toward equities after this brutal bear market. It takes a long time to reprice assets at inflection points, and now we have the reality that competition from non-Treasury instruments provides very attractive, albeit somewhat risky, yields. Moreover, notwithstanding the Fed's quantitative easing manipulation of the long end of the T-curve, how are we going to finance these massive deficits over time unless interest rates are eventually allowed to float much higher? That is, foreign investors who finance the U. S. could decide to go on strike, especially if the dollar weakens over time. Just as our goal should be higher self sufficiency in energy, we should also devise policies to enable the Federal deficit to be financed in a greater proportion from domestic saving. Only two avenues seem viable to accomplish this: tax incentives or higher interest rates.

Thus, the combination of investor demand for higher income and/or less exposure to volatile equties plus the carrot of higher competitive yields from bonds (and I need to mention how does all the TARP money attract private capital to get re-fied 3 years down the road?) seems likely to create pressure on stock valuations leading to higher yields. At some point this will put a floor on stock prices and create a historic secular bear market low.........but investors need to be thinking about the notion that we are not there yet.