Harnessing the Power of Dividends to Increase Returns

Harnessing the Power of Dividends to Increase Returns

Pacifica Partners’ Financial Post Weekly Column – December 24th 2009

This and other articles also available online at: Investment Waves Blog

Ask any investor what they expect to earn from the stock market, and the answer might be (on average) about 10%. What they might have a tougher time answering is the question “How do you expect to get the 10% rate of return?” The knee jerk response might be “Buy Low, Sell High”. In other words they are looking for price appreciation of their investments in order to power their portfolio higher.

All too often, investors forget the opportunity afforded to them by dividends. Recent data published by Bernstein Research shows that over the last 83 years, about 42% of the returns from the stock market have been due to dividends paid out by corporations to their shareholders.

This data highlights the importance of taking a “Total Return Approach” to a portfolio. In short, TOTAL RETURN = CAPITAL GAINS (price change) + DIVIDEND INCOME. While we can never know for certain how an investment will perform over time, we can be reasonably sure that an investment in a quality, blue chip stock will pay a regular dividend that over time should rise. This past year has been an exception where dividend cuts were seen with some frequency but many of the companies that had cut their dividend have already begun to raise them once again.

Dividends and Total Return

Click to see larger image

The data above shows that for more than 80 years, dividends have constituted a strong component of overall or total return. Even in the inflationary 1970s, when interest rates were rising steadily, the total return from US stocks was 5.90% of which 4.20% was attributable to dividends. If we are going down the inflationary road once again, then dividends may well be an investor’s best friend.

The real issue is that as investors might be more comfortable buying low dividend paying stocks such as energy or gold stocks, they might have foregone a great buying opportunity to be able to earn a strong dividend income stream. Many of these types of companies are unable to pay a dividend of any significance because so much of their cash flow is needed for reinvestment in new mines or the search of new oil and gas fields.

We can see that in the great bull market of the 1980s and 1990s, dividends only contributed about 25% and 14% of total return in each respective decade. The current decade – which has gone on to be the worst on record for US stocks – has seen a complete reversal. Compared with the 80s and 90s, dividends were a significant component of overall stock returns which helped to offset the negative price performance of stocks.

In investing, there are very few things one can take as a given. However, as the data above indicates, investor portfolios have been helped significantly by the power of dividends. The last bar shows that since the mid 1920s, 42% of total stock market returns have come from dividends.

One resolution investors might want to consider adding to their list for 2010 is to look at their portfolios and see if they are earning their fair share of dividends. The last eight decades should serve as proof of their ability to enhance most any portfolio.

To read this and more articles please visit the Financial Post online: FP Magazine Daily

Legal Disclaimer

This report is for information purposes only and is neither a solicitation for the purchase of securities nor an offer of securities. The information contained in this report has been compiled from sources we believe to be reliable, however, we make no guarantee, representation or warranty, expressed or implied, as to such information’s accuracy or completeness. All opinions and estimates contained in this report, whether or not our own, are based on assumptions we believe to be reasonable as of the date of the report and are subject to change without notice. Past performance is not indicative of future performance. Please note that, as at the date of this report, our firm may hold positions in some of the companies mentioned.

Pacifica Partners Vancouver Capital Management weekly financial post blog: Dividends, total returns, capital gains, dividend income, investing, AJ Sull, Inflation, Pacifica Partners Capital Management Surrey BC, Dividends, total return approach, worst decade on record, US stocks

Copyright (C) 2009 Pacifica Partners Inc. All rights reserved.

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