Should Retirees Worry About Dividend Cuts From Dividend Aristocrats?

Summary

• The list of dividend aristocrats has shrunken a lot over the last decade.
• Especially financial corporations cut or eliminated their dividends.
• The income investors get from a basket of dividend aristocrats can drop, but even during the last financial crisis the drop was rather small.
• Retirees should keep an eye on their holdings, but extreme fear about dividend cuts is not really justified.

Many retirees and other investors that rely on income from their investments put a big portion of their wealth into dividend growth stocks, especially those characterized as the so called dividend aristocrats. Due to the fact that the current list only includes those stocks that did not cut their dividends in the last 25 years, it looks like dividend cuts do happen very rarely, if at all. When we look at what companies made up that list before the financial crisis, we see that dividend cuts, at least during harsh economic times, are more likely than many investors believe.

In 2007, before the financial crisis, a big list of companies had increased their annual payout for at least 25 years in a row: These dividend aristocrats totaled 59 different companies. A significant portion of these companies have cut their dividends since or has otherwise ceased to pay dividends -- let's look at the list for both the dividend aristocrats from 2007 as well as those that still hold this status today:

The full list from 2007 includes the following companies (courtesy of Eddy Elfenbein):

Abbott Labs (NYSE:ABT)
Archer-Daniels-Midland (NYSE:ADM)
Automatic Data Processing (NASDAQ:ADP)
Avery Dennison (NYSE:AVY)
Bank of America (NYSE:BAC)
BB&T Corporation (NYSE:BBT)
Bard (C.R. Bard) Inc. (NYSE:BCR)
Becton, Dickinson (NYSE:BDX)
Anheuser-Busch (NYSE:BUD)
Chubb (NYSE:CB)
Compass Bancshares
Cincinnati Financial (NASDAQ:CINF)
Clorox (NYSE:CLX)
Comerica (NYSE:CMA)
Century Telephone (NYSE:CTL)
Dover (NYSE:DOV)
Consolidated Edison (NYSE:ED)
Emerson Electric (NYSE:EMR)
Family Dollar Stores
First Horizon National (NYSE:FHN)
Fifth Third Bancorp (NASDAQ:FITB)
Gannett (NYSE:GCI)
General Electric (NYSE:GE)
Grainger (W.W.) Inc. (NYSE:GWW)
Johnson Controls (NYSE:JCI)
Johnson & Johnson (NYSE:JNJ)
KeyCorp (NYSE:KEY)
Kimberly-Clark (NYSE:KMB)
Coca Cola (KO)
Leggett & Platt (NYSE:LEG)
Lilly (Eli) & Co. (NYSE:LLY)
Lowe's (NYSE:LOW)
McDonald's (NYSE:MCD)
3M Company (NYSE:MMM)
Altria (NYSE:MO)
M&T Bank (NYSE:MTB)
Nucor (NYSE:NUE)
PepsiCo (NYSE:PEP)
Pfizer (NYSE:PFE)
Procter & Gamble (NYSE:PG)
Progressive (NYSE:PGR)
PPG Industries (NYSE:PPG)
Regions Financial (NYSE:RF)
Rohm & Haas
Sherwin-Williams (NYSE:SHW)
Sigma-Aldrich
SLM Corporation (NYSE:SLM)
Synovus Financial (NYSE:SNV)
Questar (NYSE:STR)
State Street (NYSE:STT)
Supervalu (NYSE:SVU)
Stanley Works (NYSE:SWK)
Target (NYSE:TGT)
U.S. Bancorp (NYSE:USB)
V.F. Corp. (NYSE:VFC)
Walgreen (WBA)
Wal-Mart (NYSE:WMT)
Wrigley

A whopping 26 of these companies are not on the dividend aristocrat list any longer, due to different reasons:

Companies that got bought out:

Compass Bancshares, Family Dollar Stores, Rohm & Haas, Sigma-Aldrich and Wrigley got bought out and are thus not independent companies any longer, thus not anymore on the dividend aristocrat list either. For those who owned shares of these companies this hasn't been a bad investment though, as investors either could hold / buy shares of the acquirer and get dividend income from that company, or were paid out in cash and could deploy that money into other dividend growth stocks.

Anheuser-Busch could be counted into that group as well, since the company merged with InBev to create AB InBev as we know it right now.

Companies that froze their dividends:

There are a few companies that did not lower their payouts, but stopped rising their dividends, thus dropping of the list as well, those include Johnson Controls (which has since started raising its dividends again), Lilly (which has resumed dividend growth again as well) and M&T Bank (which since has started its payout again as well). In general holding the shares of these companies did not turn out as a big problem, as they all kept their payouts stable before starting to increase their dividends again -- investors missed out on a little bit of dividend growth, but their income did not take a hit.

Companies that cut their dividends:

Unfortunately a couple of companies cut their payouts, including Bank of America, Avery Dennison, BB&T, Comerica, Century Link, First Horizon, Gannett, General Electric, Keycorp, Pfizer, Regions Financial, Synovus Financial, State Street and US Bancorp.

Altria (the old Philip Morris) has cut its dividend after it spun off Philip Morris, but due to the fact that the combined payout was not lowered, investors who held Altria (and kept their Philip Morris shares) did not see a cut to their total income.

The other 14 companies did reduce their payouts though, which hurt the income streams of those investors who held their shares. We see that this list is heavy on financials, which isn't surprising due to the fact that financial corporations were hit hardest during the subprime and financial crisis. Due to its huge banking business back then GE could have been put into the financial basket back then as well.

Many of these companies have since started to increase their dividends again, such as Bank of America, which has just raised its payout by 60%.

Companies that eliminated their dividends:

Progressive Corp., SLM Corp. and Supervalu have eliminated their dividend payments completely. With Progressive and SLM this list is primarily made up by financial corporations as well, once again not a big surprise.

The original list included an outsized number of financial institutions, diversifying and putting not too many eggs into one basket would have allowed to limit the impact of the big cuts in this sector.

Now that we know which companies have lost their dividend aristocrat status over the last ten years (and why), let's look at what would have happened to an income focused portfolio after 2007:

For this list I excluded those companies that were acquired. I also assumed an equal weighted portfolio (for simplicity, $1000 put into each company at the beginning of 2007).

We see that an investment of $49,000 made at the beginning of 2007 would have resulted in annual income of $1364 in that year, and an income of $1142 in 2010. This means a yield of 2.8% and 2.3%, respectively. The annual income would have dropped by 16% over those three years.

Are the dividend aristocrats safe from dividend cuts and are investors who invest in those safe from declining income generation? No on both counts, but the risk is still pretty tolerable, I believe: The last financial crisis was a very severe one, and the dividend aristocrats were heavily overweighed in the financial sector -- but even combining these two risk factors, the income investors got from a basket of dividend aristocrat stocks declined only slightly.

As long as investor plan for some margin of safety (such as annual dividend income that is 20% to 30% higher than their cost of living) and / or have enough cash on the side to cover a temporary shortfall in dividend proceeds, even a very big financial crisis (such as the last one) does not threaten the retirement planning of dividend growth investors in a meaningful way.

Takeaway

The list of dividend aristocrats has shrunken significantly over the last ten years, mainly due to dividend cuts, but also due to M&A and other factors. Investors who were living from their dividend proceeds prior to the financial crisis would have seen a 16% income reduction from an equal weighted dividend aristocrat portfolio -- since dividend proceeds are usually not the only source of income for retirees, the actual hit to their annual income would have been even smaller.

Planning with some margin of safety allows for relatively low-risk retirement with a diversified basket of dividend growth stocks, especially since a financial crisis such as the last one is not very common.

Author's note: If you enjoyed this article and would like to read more from me, you can hit the "Follow" button to get informed about new articles. I am always glad to see new followers!

Analyst’s Disclosure: I am/we are long JNJ, MO, PFE, WMT. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Comments

[Market Map]

A problem that flys in the face of prudent, rational, and sensible investing is the allocation of a large portion of one's assets into a single stock attribute or characteristic. An important facet of investing that can provide prudence and rationality, is investment in a broad diversification of stock styles / attributes and strategies. Modern investors are fortunate to have access to the ETF innovation of investment vehicles which are constructed with portfolios of dividend growth stocks ( such SPHD, REGL, NOBL, etc ), There also exists a wealth of low expense ETF choices reflecting portfolios managed via different academically based risk premia attributes available for investment. The construction of a broadly diversified portfolio, may reasonably allocate possibly as much as 20% capital towards a large cap dividend growth attribute. That way, idiosyncratic single attribute risk and recency bias is reduced as one stock attribute / style may be "in favor / outperforming" at the moment / in the current cycle, yet may be the most "intrinsic value reverting" into a significant market decline period or over the next cycle ( ie we don't know why the large cap low volatility attribute has been leading in this cycle and/or what will lead in the next - there are some valid conjectures as to why it has ) Thus, an investor having exposure to many stock attributes, may have a better probability of participating in a stock style or styles that are showing current cycle outperformance / popularity or that may show outperformance in the future.
As the percentage allocation dedicated to the dividend growth style shrinks within a portfolio constructed on a more broadly based stock attributional premise, the importance of selecting and managing the "correct" stable of individual stocks and the monitoring of each individual stock for dividend cuts or quality rating, becomes less important. Therefore, an investor may desire to jettison the cumbersome management of a portfolio of many individual companies and settle for low expense ETFs that represent the dividend growth universe. The dividend income produced by the dividend growth attribute ETF may be less in aggregate, but that may balance out with a higher capital appreciation over time vs. the individual stock portfolio. Additionally, In mid to later stage retirement, in the years where cognitive decline has a greater chance of surfacing, this may relieve the work for the "beneficiaries"; work involving the management of just few ETFs within a trust vs. an involvement with a multitude of individual positions.
. . . .
The application of robust quantitative tactical asset allocation strategies to a portfolio of ETFs representing various equity premia shown in the literature *** may further add value and risk mitigation for investors in "accumulation" and "spending" phases of their investing lifecycle ( this being beyond the scope of this comment and article )
*** tinyurl.com/y7mhbcsu

[AlieGee]

Compass reminded me of how many banks were owned that were taken over for cash, or shares of another bank. The first that came to mind was SouthTrust which was the old Savings of America on the east coast and had another name of the west coast. They were bought out by ? SouthTrust went into many of their locations and were a horror show but had good locations. The stock was in bad shape and went nowhere. Had a feeling that with the great locations they had another bank would buy them so bought shares and was rewarded with a nice cash premium.

I didn't miss the dividend as I walked away with the rich cash premium.

Other banks also were merged or bought out. Often I made out to the plus as I ended owning $BB&T & PNC along with other banks. Wells was another. All now with low cost basis and replaced dividends from the others.

Bottom line. Losing a dividend can go in an investors favor if the stock that cuts, eliminates, or is bought out can be replaced with another that pays.

I read above diversification which I do and do not reinvest for that reason. Will only buy more if the stock goes down and the fundamentals have not changed. Buying or reinvesting at higher prices is IMO not the way I see it .

[SDS (Seductive Dividend Stocks)]

See
https://seekingalpha.c...
and
https://seekingalpha.c...
and
https://seekingalpha.c...
for more data and alternatives.
SDS

[Buyandhold 2012]

A financial crisis such as the last one is not very common?

I disagree.

The stock market crashed twice in the first decade of this century.

Should retirees worry about dividend cuts from dividend aristocrats?

A dividend cut is always a possibility. The best protection for retired people is not to put all of their eggs in one basket. I would suggest that retired people own at least 20 stocks and as many as 50 stocks.

[Jonathan Weber]

Not every stock market crash goes along with harsh economic times, high unemployment, low earnings, etc. that can lead to dividend cuts. First stock market crash this century was due to valuations being too high, there were not that many dividend cuts by aristocrats back then.

[Jonathan Weber]

Agree with you that diversification is very important!

[User 13827142]

B&H,

I agree with most of what you say above, but believe being all in stocks is dangerous. I began investing in 1969 and was all in stocks… which essentially were in the doldrums until the late 1970s.

Real diversification goes beyond into bonds and other assets.

[Pedr0]

Nice piece of writing, and I'd like to add a few thoughts.

A nit, you say there are 59, but I count only 58, typo or is one missing?

Historical financial data is less accurate than we might think. For example, looking at historical dividends for PGR, I see different values from Fastgraphs and SimplySafeDividends. I've noticed this discrepency before. Further, both those sites agree that PGR had a frozen dividend from at least 1998 to 2002 and from 2003 to 2006, which if accurate it wouldn't qualify as a divided aristocrat which requires increases every year.

This list and the consequences of blind investing are well taken. Personally, and I know many others agree, such a list is only the starting point, not definitive. I know some on SA have proposed blind investing from such a list, but I think this points out the foolhardiness of such a strategy. For instance, I don't invest in more than one stock in any industry, and I keep the amount invested in various sectors somewhat equalized. This list has about 10 banks, which I personally would never invest in more than one bank. And as it turned out, the banks were the big losers. If you did nothing more than use my diversity criteria, you'd have avoided a drop in portfolio dividends.

The warning I'd give is that if 20% of your portfolio is REITs or UTILs (as the authors example has about 20% in banks), you are not diversified and you accepting a risk that something happens to that sector and you see a big drop in divis.

[TheWallStreetKid]

I'm buying T hand over fist. T stands for "Top of the Heap".

[TaiPan]

Jonathan:

This is an excellent piece of work -- a rational assessment of potential damage to a strong portfolio of dividend-growth stocks.

But yes, I agree with the commenter who suggested that it would also be useful to have an idea of the portfolio value at peak and at trough, just to prepare us for the worst. Being so prepared would / might stop us from panicking out of the market at the wrong time.

[Jonathan Weber]

Glad you liked it TP, I'll try to write a second part where I will include price comparisons.

[chrisrobbins174]

There's a bit of irrationality at play here, especially if you're assuming a long time horizon through retirement - yes, dividend cuts hurt your ability to generate income, but they're not necessarily indicative of long-term fundamental weakness - and in some instances, they could create huge value opportunities.

If you're using DGI as your primary retirement strategy, you should probably plan around a certain level of dividend cuts. If you can't generate sustainable income assuming that eventually, dividends may be cut or suspended, then you need to save more.

To me, it makes more sense to seek diversified sources of income and capital preservation, and not just depend on dividend equities, but even then I must choose wisely and remain conscious of sector concentration risk across asset classes.

[TaiPan]

Chrisrobbins:

“There's a bit of irrationality at play here, especially if you're assuming a long time horizon through retirement - yes, dividend cuts hurt your ability to generate income, but they're not necessarily indicative of long-term fundamental weakness - and in some instances, they could create huge value opportunities.”
----------------------...

All true, but the article did not say anything different, as I read it. The article’s point was to assess the potential damage to a dividend-income stream in dire circumstances like the crash of 2007-2008. It did not refer to fundamental weakness/strength or to value opportunities.

What, then, is the “irrationality” you speak of?

[chrisrobbins174]

With fewer dividend aristocrats to choose from, it becomes more difficult to diversify and protect a portfolio. The only way to account for the risk of dividend cuts or suspensions is through saving more, or seeking other sources of income. As far as potential damage is concerned, the past isn't very good prologue in this case, as dividend payers would be more impacted by crashes and disruptions in some areas of the economy than others.

Irrationality comes in when what seems like a rational decision, to avoid investing in or to sell a company that has cut or frozen its dividend, leads to irrational results, lower total income and reduced portfolio performance. At the same time, sticking with a long-term dividend investing strategy focused in sectors at high risk being disrupted may seem like a rational choice because we're still getting dividend growth. Yes, our income rolls in for a while, but the outcome is irrational - just look at all the financials, utilities and retail on the Aristocrats list - the companies go out of business and we're unable to liquidate our huge, concentrated positions as they finally decide to freeze or cut dividends. Seemingly rational decisions often lead to irrational outcomes.

[User 13827142]

al lowishes
Comments (1722) |Following
Taipan,

Perhaps it would be irrational if dividend stocks were the entire plan. I see them only as one part and as a retiree "worry" about almost everything ;-)

Nothing is forever. When my first manufacturing client began to off-shore jobs in 1988, I realized the middle class was in trouble, but I never dreamed ALL my clients would be gone in slightly more than a decade.

Now, at nearly 80, I am far more cautious than ever. Hoping to not lose big, I am taking profits on low div payers like DEO and am about 1/3 dividend stocks, 1/3 bonds and bond mutual funds, and 1/3 cash.

I am expecting a major correction at any time. The Fed is no friend of investors—just bankers. Government data is misleading to make politicians seem less stupid. World central banks have all joined the QE-type defense. Algo traders have removed any real price discovery and multiplied volatility.

Judging by the attempt of politicians to design a "one-size fits all" healthcare plan, we are getting another rushed version which is essentially Obamacare 2.0.

Picture the space program if designed and run by political parties.

Very doubtful we will see "America Great Again" anytime soon. Being the sole undamaged nation of WW2 made us great until the mid 1970s, but the average US family has been losing ground since then.

[The Mathematical Investor]

Look at the stocks that were on the first DA list in 1989. They have survived 53+ years of recessions, crisis, oil shocks, real estate shocks, wars, low interest rates, high interest rates, high inflation, low inflation, stagflation.

MMM
CINF
KO
CL
JNJ
LOW
PG
DOV
EMR
GPC
ITW

[Kigen]

I miss Hormel on the list.

[Pacman13]

Agree with the conclusion , but would have liked to see a comparison to bonds or other equities results over the timeframe. I would suggest that for retirees these companies are at least less worrisome than investments elsewhere.

[Maverick_Investor]

"We see that an investment of $49,000 made at the beginning of 2007 would have resulted in annual income of $1364 in that year, and an income of $1142 in 2010. This means a yield of 2.8% and 2.3%, respectively. The annual income would have dropped by 16% over those three years."
With an initial investment of $49k it would have been interesting to know the account value in 2010 presuming all dividends were spent as living expenses. Also what the account value might be today with a comparison to the same amount invested in the S&P 500 (ticker SPY). A 10 year comparison that includes a market crash is very informative I think.

[Jonathan Weber]

True, maybe I'll include that in another article.

[Retired in Costa Rica]

Jonathan Weber,
One of the motivations for creating an income stream in retirement of these stocks is to fight inflation because they have a history of raising dividends. Not only did the income from the $49,000 decrease by 16%, but the rate of inflation was 5.2% from 2007-2010 which further reduces purchasing power. From the perspective of a retiree shouldn't this be included in the discussion?

[Jonathan Weber]

Could be included, in that case the real income would have dropped 20% over those three years. Since inflation is not equal for all goods and all regions, the impact on one's personal spending power could be bigger or smaller though, I believe.

[sheepdip]

DGI'ers take note.

[Hardog]

I didn't see how much those divvies would be today.