Dividend growth question

Discuss all general (i.e. non-personal) investing questions and issues, investing news, and theory.
Post Reply
EnjoyIt
Posts: 1314
Joined: Sun Dec 29, 2013 8:06 pm

Dividend growth question

Post by EnjoyIt » Thu Jun 12, 2014 1:54 pm

As Larry Swedroe likes to point out dividend growth investing does not outperform index funds as dividends come from the value of the stock. Therefor If we compared dividend growth stocks to a large caps index fund we would find the stocks correlate or lagging slightly.

Now here is the kicker. We as bogleheads hedge our investment by holding bonds. This decreases our risk, but also decreases our expected return. Dividend growth investors do not own bonds. They expect their dividends to keep coming in regardless what the market is doing. Therefor they do not need bonds and sleep well at night because their stocks keep paying out quarterly even in a declining market. Some might argue that these stocks have risk and may stop paying dividends or even cease to exist, but that would also happen in the large cap index fund.

My point being that by not buying bonds, dividend growth investors are 100% stocks and therefor should have a higher expected return while still sleeping well at night.

Here is a chart of Vanguard dividend fund vs Vanguard life strategy fund moderate which has 37% bonds. I also added the S+P 500. We only have 8 years worth of dividend fund data so this graph/chart isn't great, but here it is.

http://quotes.morningstar.com/chart/fund/chart.action?t=VDADX&region=usa&culture=en-US&dataParams=%7B%22zoomKey%22%3A9%2C%22version%22%3A%22US%22%2C%22showNav%22%3Atrue%2C%22defaultShowName%22%3A%22name%22%2C%22mainSettingId%22%3A%22main%22%2C%22navSettingId%22%3A%22nav%22%2C%22benchmarkSettingId%22%3A%22benchmark%22%2C%22sliderBgSettingId%22%3A%22sliderBg%22%2C%22volumeSettingId%22%3A%22volume%22%2C%22defaultBenchmark%22%3Afalse%2C%22id%22%3A%22F00000QKM9%7CFOUSA00FK9%22%2C%22type%22%3A%22FO%7CFO%22%2C%22name%22%3A%22XNAS%3AVDADX%7CXNAS%3AVSMGX%22%2C%22defaultBenchmarks%22%3A%5B%22%24FOCA%24LB%24%24%7CLarge%20Blend%7CCA%5DFO%22%2C%22XIUSA04G92%7CS%26P%20500%20TR%20USD%7CXI%22%5D%2C%22chartType%22%3A%22growth%22%2C%22startDay%22%3A%2204%2F21%2F2006%22%2C%22endDay%22%3A%2206%2F11%2F2014%22%2C%22chartWidth%22%3A955%2C%22SMA%22%3A%5B%5D%7D

Any thoughts on this? I have no plans on switching teams or AA, but it did get me thinking a little.

surfstar
Posts: 1421
Joined: Fri Sep 13, 2013 12:17 pm
Location: Santa Barbara, CA

Re: Dividend growth question

Post by surfstar » Thu Jun 12, 2014 2:04 pm

Just happened to read this today:
viewtopic.php?f=1&t=122734 (Dividend, growth investment strategy)

User avatar
ogd
Posts: 4809
Joined: Thu Jun 14, 2012 11:43 pm

Re: Dividend growth question

Post by ogd » Thu Jun 12, 2014 2:14 pm

Beckmaster: a dividend growth stock is not by any means some kind of combination stock / bond. It's 100% stock and it will act accordingly. In a bad enough economy the dividends will eventually go away and until then the market penalizes the value of the stock in anticipation. The "sleeping at night" part is fooling oneself.

The dividend appreciation fund did well in 2008-2009 because it happened to have the kind of stocks that weren't as affected as the overall market. However, try zooming in on the mini-crash of 2011 and the story changes; the dividend fund did not measurably protect you vs the S&P, but the LS fund did.

It's also the case, shamefully for Vanguard, that the LS funds were different and broken in 2008-2009. They contained a market timing fund, Vanguard Asset Allocation, which did precisely the wrong thing at the wrong time and detracted greatly from the funds' safety. Try adding Vanguard Balanced Index to that graph, a fund unaffected by such foolishness. If it makes you feel better, the LS funds were not popular / recommended around here when they included the market timing fund.

Lastly, one word of warning about dividend growth proponents: they have a marked tendency to take the current dividend growers and show their past performance, which is necessarily good. Their "lists" don't pay the penalties for having been wrong, like a fund does, or like you would. The reason they can sort of get away with it is that dividends don't move that fast; if you did the same thing with stock price ("price growth investing", where I take the Amazons and Netflixes and show you their past performance) the results would be so ridiculously good that it would immediately draw attention to the problem. Don't fall for it. Demand to see a fund or a past list held thru the present.

EnjoyIt
Posts: 1314
Joined: Sun Dec 29, 2013 8:06 pm

Re: Dividend growth question

Post by EnjoyIt » Thu Jun 12, 2014 2:34 pm

By no means am I saying that dividends have any resemblance to bonds. But in the eyes of a dividend growth investor, they care not for valuation, they care about dividends. Therefor as long as they get their quarterly checks, they sleep well at night. As soon as a stock stops paying or decrease dividends, that stock is replaced by one that does. As for 2011, again they care not about valuations. No dividends were lost in 2011. Actually to them a decline like that lets them buy dividends at a "discount."

My point being, a dividend growth investor sleeps well at night holding 100% stocks and theoretically should have a higher expected return over long term. We just don't have any data over long term to prove or disprove it.

steve_14
Posts: 1507
Joined: Wed Jun 20, 2012 12:05 am

Re: Dividend growth question

Post by steve_14 » Thu Jun 12, 2014 2:36 pm

The same risks that cause stock prices to drop, by definition, reduce future expected dividends. If we hadn't recovered from the 2008-09 crash, yields would have been greatly reduced by now. A glance at Shiller data shows that dividends can drop by 50% or more and stay down for decades, especially when you factor inflation.

There's no free lunch in dividend paying stocks. And it's foolish to confuse a stock with a bond.

deikel
Posts: 425
Joined: Sat Jan 25, 2014 7:13 pm

Re: Dividend growth question

Post by deikel » Thu Jun 12, 2014 3:00 pm

I would agree that this way of arguing for dividend paying funds makes no sense. Ultimately the payed out dividend is money leaving the company (compare Berkshire as the opposite model), so dividends will be effected when the market turns down since no company will be able to continue to pay out the same level (or any dividend at all) during a prolonged downturn.

Sure, its probably not such a fast effect (till the next quarter), so there may be a lag time before the dividend focused investor sees it (besides the stock price drop).

For your argument of changing one stock for another: How do you know which one will be able to pay out a dividend later on ? What true cost do you have to exchange your non paying stock for a paying stock ? If the fact pf payment is valuated in already, than this transaction should cost you money, reduce your number of stocks and hence reduce dividend payouts later that way...

I guess this discussion would not come up were not the yield of bonds currently so terrible that they are effectively parked cash....

Is it possible that the dividend focused investor (which gets what yield per year in dividens that is sufficient for him to live off ?) just has so much more capitol invested that it is less of a problem to begin with ?
Everything you read in this post is my personal opinion. If you disagree with this disclaimer, please un-read the text immidiatly and destroy any copy or remembrance of it.

Leeraar
Posts: 4109
Joined: Tue Dec 10, 2013 8:41 pm
Location: Nowhere

Re: Dividend growth question

Post by Leeraar » Thu Jun 12, 2014 3:15 pm

So, in the OP you seem to concede that dividend-paying stocks do not have a better total return than equivalent stocks that do not pay dividends.

If so, dividends do not matter (except for tax inefficiency), and that's more or less the end of the discussion.

L.
You can get what you want, or you can just get old. (Billy Joel, "Vienna")

Angelus359
Posts: 762
Joined: Tue Mar 04, 2014 12:56 am

Re: Dividend growth question

Post by Angelus359 » Thu Jun 12, 2014 3:53 pm

Where it gets funky is overlap. Value stocks historically over long runs win. Value stocks overlap with dividend stocks.

As to tax inefficiency, they tend to be priced with the inecciciency in mind, which works out in advantage for people who use tax exempt accounts like roth
IT-DevOps System Administrator

User avatar
ogd
Posts: 4809
Joined: Thu Jun 14, 2012 11:43 pm

Re: Dividend growth question

Post by ogd » Thu Jun 12, 2014 6:52 pm

Beckmaster wrote:My point being, a dividend growth investor sleeps well at night holding 100% stocks and theoretically should have a higher expected return over long term.

Well, I must be actively interfering with your sleep during a crash by pointing out that the stock price is a sign of a declining dividend and you should be worried. It's not the wildfire that you see on TV in another state, it's the one that you can smell from your porch. Maybe it will be stopped in time. But you should be worried.

We just don't have any data over long term to prove or disprove it.

We do, and the conclusion is that dividend stocks are nothing special when you account for the value factor. And this makes sense: what matters is the underlying business and the price at which you bought it, not what they do with the earnings. I'd say at this point the burden of proof is on the dividend side of the discussion.

User avatar
abuss368
Posts: 11871
Joined: Mon Aug 03, 2009 2:33 pm
Location: Where the water is warm, the drinks are cold, and I don't know the names of the players!

Re: Dividend growth question

Post by abuss368 » Thu Jun 12, 2014 7:20 pm

My goal is to have more cash flow from stock and bond total market funds than we will need.

Dividends can always be decrease by a company which we all witnessed during the financial crisis. Interest rates and the resulting bond yields can be cut as well.
John C. Bogle: "You simply do not need to put your money into 8 different mutual funds!" | | Disclosure: Three Fund Portfolio + U.S. & International REITs

EnjoyIt
Posts: 1314
Joined: Sun Dec 29, 2013 8:06 pm

Re: Dividend growth question

Post by EnjoyIt » Fri Jun 13, 2014 1:40 pm

Leeraar wrote:So, in the OP you seem to concede that dividend-paying stocks do not have a better total return than equivalent stocks that do not pay dividends.

If so, dividends do not matter (except for tax inefficiency), and that's more or less the end of the discussion.

L.


Not if all your investing is done in a tax advantaged account.

deikel wrote:For your argument of changing one stock for another: How do you know which one will be able to pay out a dividend later on ? What true cost do you have to exchange your non paying stock for a paying stock ? If the fact pf payment is valuated in already, than this transaction should cost you money, reduce your number of stocks and hence reduce dividend payouts later that way...


According to the dividend investors forums and newsletters, stocks are picked for paying dividends over long periods of time with a history of increasing those dividends regularly.

deikel wrote: Is it possible that the dividend focused investor (which gets what yield per year in dividens that is sufficient for him to live off ?) just has so much more capitol invested that it is less of a problem to begin with ?


That is an interesting thought. Since these stocks have a regular history of increasing dividends, the payout increases regularly and keeps up with inflation actually dividend increases beat inflation thereby you get to spend more every year. The theory goes they are then able to withdraw indefinitely.

abuss368 wrote:My goal is to have more cash flow from stock and bond total market funds than we will need.

Dividends can always be decrease by a company which we all witnessed during the financial crisis. Interest rates and the resulting bond yields can be cut as well.


Not all dividends were decreased during the financial crisis. Not the ones held by dividend investors such as XOM, JNJ, PG.

My point still stands. We hold bonds to mitigate risk. We are uncomfortable with loosing a massive chunk of our portfolio. So we hedge our bets and invest a percentage of our money in fixed income assets. Dividend investors don't care about bonds. They care about their income stream. As long as those checks keep coming in they are happy regardless if the market is a bear or a bull. Therefor they stay in 100% stocks. Not as diversified as a boglehead, but the idea is to own about 20-50 dividend paying companies. By being in 100% stocks they theoretically should have higher expected returns since the safety of fixed assets aren't weighing them down.

bhsince87
Posts: 1399
Joined: Thu Oct 03, 2013 1:08 pm

Re: Dividend growth question

Post by bhsince87 » Fri Jun 13, 2014 3:01 pm

You're partially right. They MIGHT expect better returns longer term, but only because they are 100% equity.

And yes, they MIGHT have a constant cash flow, even in down markets. But that comes from the fact they are essentially "selling low". Or more accurately, the companies are "selling low" on behalf of the dividend recipients.

It's really no different than an individual investor who is 100% equities and who sells shares for income. For a given income, they need to sell more shares when the market is down. So it seems more painful than receiving a dividend. But the net result is the actually the same.
BH87

Leeraar
Posts: 4109
Joined: Tue Dec 10, 2013 8:41 pm
Location: Nowhere

Re: Dividend growth question

Post by Leeraar » Fri Jun 13, 2014 3:08 pm

Dividend investors don't care about bonds. They care about their income stream.


Dividend investors are investing in stocks, not bonds. Why do you need a comparison to bonds, which they are not investing in?

Th phantom argument here is that since dividends are income, the risk must be similar to bonds. Nothing can be further from the truth.

L.
You can get what you want, or you can just get old. (Billy Joel, "Vienna")

Snowjob
Posts: 1316
Joined: Sun Jun 28, 2009 10:53 pm

Re: Dividend growth question

Post by Snowjob » Fri Jun 13, 2014 4:10 pm

bhsince87 wrote:You're partially right. They MIGHT expect better returns longer term, but only because they are 100% equity.

And yes, they MIGHT have a constant cash flow, even in down markets. But that comes from the fact they are essentially "selling low". Or more accurately, the companies are "selling low" on behalf of the dividend recipients.

It's really no different than an individual investor who is 100% equities and who sells shares for income. For a given income, they need to sell more shares when the market is down. So it seems more painful than receiving a dividend. But the net result is the actually the same.


Disagree with the second part -- companies selling low.

As an owner of those shares, your economic stake in the company (as defined by future cash flows) does not change. Company has 10 shares, before and after the dividend was paid, investor A still owns 1 share before and after, and thus still has the same claims on future cash flows. In fact, if this investor is in the accumulation stage, he will reinvest that dividend during the market downturn and increase his economic stake in the venture by taking someone else's shares into his portfolio.

Were he invested in a company that does not pay a dividend, it is fair to assume that he would also see a similar increase in future cash flow (tax drag aside) IF the company can invest in projects providing an IRR on part with the earnings yield the dividend investor would get by re-investing shares at a depressed level. Specifically in the case where you mentioned *a down turn* its unlikely that this will happen as corporations will typically cut Cap Ex, horde cash and M&A grinds to a halt. Buybacks also drop off precisely when they would be most valuable to an investor.

bhsince87
Posts: 1399
Joined: Thu Oct 03, 2013 1:08 pm

Re: Dividend growth question

Post by bhsince87 » Fri Jun 13, 2014 6:19 pm

Snowjob wrote:
bhsince87 wrote:You're partially right. They MIGHT expect better returns longer term, but only because they are 100% equity.

And yes, they MIGHT have a constant cash flow, even in down markets. But that comes from the fact they are essentially "selling low". Or more accurately, the companies are "selling low" on behalf of the dividend recipients.

It's really no different than an individual investor who is 100% equities and who sells shares for income. For a given income, they need to sell more shares when the market is down. So it seems more painful than receiving a dividend. But the net result is the actually the same.


Disagree with the second part -- companies selling low.

As an owner of those shares, your economic stake in the company (as defined by future cash flows) does not change. Company has 10 shares, before and after the dividend was paid, investor A still owns 1 share before and after, and thus still has the same claims on future cash flows. In fact, if this investor is in the accumulation stage, he will reinvest that dividend during the market downturn and increase his economic stake in the venture by taking someone else's shares into his portfolio.

Were he invested in a company that does not pay a dividend, it is fair to assume that he would also see a similar increase in future cash flow (tax drag aside) IF the company can invest in projects providing an IRR on part with the earnings yield the dividend investor would get by re-investing shares at a depressed level. Specifically in the case where you mentioned *a down turn* its unlikely that this will happen as corporations will typically cut Cap Ex, horde cash and M&A grinds to a halt. Buybacks also drop off precisely when they would be most valuable to an investor.


I'm not going to argue this point very long. Larry Swedroe has been trying to do this for years, and if people won't believe him, I surely can't do any better... :happy

But first, I had to assume based on the OP's statement that this investor is not in the accumulation phase (although that really doesn't matter much). But if they were, then reinvesting dividends is a pretty bad deal.

The company gives you some cash, and the government taxed it at 15% min. The share price falls by whatever the dividend was, and you buy back in. But you can't buy as much now, because you've lost 15% to tax. You'd be better off if the company just kept the dividend and allowed their share price to increase by the amount of the dividend.


And for the original topic, let's assume a company is trading at $100 a share, and they pay a $2 dividend. Now the company is worth $98 a share. Next year, the market has crashed, and same company is trading at $50 a share, but they maintain their $2 dividend. They pay you the $2, and now they are worth $48.

In the first case, the share price drops 2%. In the second, 4%. It's no different than the investor selling 2% of his shares the first year, and 4% the second year. The number of shares owned is lower in the second case, but the value per share is less in the first case. In the first case, the calculation of future growth of the company must be discounted by the amount of the dividend paid out.
BH87

User avatar
grayfox
Posts: 4604
Joined: Sat Sep 15, 2007 4:30 am
Location: Earth

Re: Dividend growth question

Post by grayfox » Sat Jun 14, 2014 2:52 am

Beckmaster wrote:As Larry Swedroe likes to point out dividend growth investing does not outperform index funds as dividends come from the value of the stock. Therefor If we compared dividend growth stocks to a large caps index fund we would find the stocks correlate or lagging slightly.

Now here is the kicker. We as bogleheads hedge our investment by holding bonds. This decreases our risk, but also decreases our expected return. Dividend growth investors do not own bonds. They expect their dividends to keep coming in regardless what the market is doing. Therefor they do not need bonds and sleep well at night because their stocks keep paying out quarterly even in a declining market. Some might argue that these stocks have risk and may stop paying dividends or even cease to exist, but that would also happen in the large cap index fund.

My point being that by not buying bonds, dividend growth investors are 100% stocks and therefor should have a higher expected return while still sleeping well at night.

Here is a chart of Vanguard dividend fund vs Vanguard life strategy fund moderate which has 37% bonds. I also added the S+P 500. We only have 8 years worth of dividend fund data so this graph/chart isn't great, but here it is.

http://quotes.morningstar.com/chart/fund/chart.action?t=VDADX&region=usa&culture=en-US&dataParams=%7B%22zoomKey%22%3A9%2C%22version%22%3A%22US%22%2C%22showNav%22%3Atrue%2C%22defaultShowName%22%3A%22name%22%2C%22mainSettingId%22%3A%22main%22%2C%22navSettingId%22%3A%22nav%22%2C%22benchmarkSettingId%22%3A%22benchmark%22%2C%22sliderBgSettingId%22%3A%22sliderBg%22%2C%22volumeSettingId%22%3A%22volume%22%2C%22defaultBenchmark%22%3Afalse%2C%22id%22%3A%22F00000QKM9%7CFOUSA00FK9%22%2C%22type%22%3A%22FO%7CFO%22%2C%22name%22%3A%22XNAS%3AVDADX%7CXNAS%3AVSMGX%22%2C%22defaultBenchmarks%22%3A%5B%22%24FOCA%24LB%24%24%7CLarge%20Blend%7CCA%5DFO%22%2C%22XIUSA04G92%7CS%26P%20500%20TR%20USD%7CXI%22%5D%2C%22chartType%22%3A%22growth%22%2C%22startDay%22%3A%2204%2F21%2F2006%22%2C%22endDay%22%3A%2206%2F11%2F2014%22%2C%22chartWidth%22%3A955%2C%22SMA%22%3A%5B%5D%7D

Any thoughts on this? I have no plans on switching teams or AA, but it did get me thinking a little.


I think you are right.
Last edited by grayfox on Sat Jun 14, 2014 11:51 am, edited 1 time in total.
Gott mit uns.

IlliniDave
Posts: 2126
Joined: Fri May 17, 2013 7:09 am

Re: Dividend growth question

Post by IlliniDave » Sat Jun 14, 2014 4:33 am

Whether or not it "makes sense" regarding how some of us think or want to play the game, a fair number of investors do it that way and in general it seems to suit their needs pretty well and make them happy.

I hear people make the simultaneous arguments that the so-called dividend stocks are necessarily eroding their value by paying the dividends and overpriced. That tells me there is a premium for a steady dividend payer which can offset some of the balance sheet effects. I also am skeptical that "retained dividends" are utilized by companies anywhere near as efficiently as we would like to believe.

I notice that dividend stocks are rather valuey in the aggregate and value stocks are rather dividendy in the aggregate.

I'm not a dividend investor but I do like value indexes in tax advantaged space so I have no inherent bias against dividends, and I don't mind if people use strategies I don't. If a person can get enough assets accumulated and a dividend stream that meets their needs (and in the aggregate experiences the 1.1% real growth dividends have) then good for them. Could they arrive at even more wealth by using different strategies? Quite possibly. But the same would likely be true for all of us.
Don't do something. Just stand there!

The Wizard
Posts: 11093
Joined: Tue Mar 23, 2010 1:45 pm
Location: Reading, MA

Re: Dividend growth question

Post by The Wizard » Sat Jun 14, 2014 4:40 am

It seems to me that so long as one has way more than enough dividend-paying stock in a fund or portfolio that things should be fine, year in and year out.
Someone with a more typical 50/50 AA might be content with a $3M portfolio going into retirement.
But with 100% dividend-paying stocks, you might want $5M or more to allow for safety when things fluctuate the wrong way...
Attempted new signature...

Snowjob
Posts: 1316
Joined: Sun Jun 28, 2009 10:53 pm

Re: Dividend growth question

Post by Snowjob » Sat Jun 14, 2014 7:21 pm

bhsince87 wrote:
Snowjob wrote:
bhsince87 wrote:You're partially right. They MIGHT expect better returns longer term, but only because they are 100% equity.

And yes, they MIGHT have a constant cash flow, even in down markets. But that comes from the fact they are essentially "selling low". Or more accurately, the companies are "selling low" on behalf of the dividend recipients.

It's really no different than an individual investor who is 100% equities and who sells shares for income. For a given income, they need to sell more shares when the market is down. So it seems more painful than receiving a dividend. But the net result is the actually the same.


Disagree with the second part -- companies selling low.

As an owner of those shares, your economic stake in the company (as defined by future cash flows) does not change. Company has 10 shares, before and after the dividend was paid, investor A still owns 1 share before and after, and thus still has the same claims on future cash flows. In fact, if this investor is in the accumulation stage, he will reinvest that dividend during the market downturn and increase his economic stake in the venture by taking someone else's shares into his portfolio.

Were he invested in a company that does not pay a dividend, it is fair to assume that he would also see a similar increase in future cash flow (tax drag aside) IF the company can invest in projects providing an IRR on part with the earnings yield the dividend investor would get by re-investing shares at a depressed level. Specifically in the case where you mentioned *a down turn* its unlikely that this will happen as corporations will typically cut Cap Ex, horde cash and M&A grinds to a halt. Buybacks also drop off precisely when they would be most valuable to an investor.


I'm not going to argue this point very long...


Actually you didn't argue it at all, at least in reference to the points I made, you basically quoted me and ignored me ha-ha. I stand by my prior assertion, that on the margins, the dividend in the downturn is actually a net positive if reinvested. Even with the 15% drag its probably on balance better then having it retained and though in a tax advantaged account its a clear win. The simple fact is that by and large corporations get conservative in downturns.

Leeraar
Posts: 4109
Joined: Tue Dec 10, 2013 8:41 pm
Location: Nowhere

Re: Dividend growth question

Post by Leeraar » Sun Jun 15, 2014 12:22 am

Companies that generate earnings may choose to pay dividends, reinvest for internal growth, indulge in acquisitions, buy back shares, ...

There is no evidence that any one of these is generally better for the company or for the shareholders.

L.
You can get what you want, or you can just get old. (Billy Joel, "Vienna")

User avatar
ogd
Posts: 4809
Joined: Thu Jun 14, 2012 11:43 pm

Re: Dividend growth question

Post by ogd » Sun Jun 15, 2014 12:40 pm

Snowjob wrote:I stand by my prior assertion, that on the margins, the dividend in the downturn is actually a net positive if reinvested. Even with the 15% drag its probably on balance better then having it retained and though in a tax advantaged account its a clear win. The simple fact is that by and large corporations get conservative in downturns.

Total return (aka the "growth of $10K" type of graphs) include dividends reinvested. If this was such a huge advantage in a crash, we'd see it in returns and certainly in risk-adjusted returns. But like many other feel-good dividend stories, it doesn't show up in practice; instead, it appears that earnings retained are being priced correctly. Which is only reasonable, if you think about it.

EnjoyIt
Posts: 1314
Joined: Sun Dec 29, 2013 8:06 pm

Re: Dividend growth question

Post by EnjoyIt » Sun Jun 15, 2014 1:40 pm

ogd wrote:
Snowjob wrote:I stand by my prior assertion, that on the margins, the dividend in the downturn is actually a net positive if reinvested. Even with the 15% drag its probably on balance better then having it retained and though in a tax advantaged account its a clear win. The simple fact is that by and large corporations get conservative in downturns.

Total return (aka the "growth of $10K" type of graphs) include dividends reinvested. If this was such a huge advantage in a crash, we'd see it in returns and certainly in risk-adjusted returns. But like many other feel-good dividend stories, it doesn't show up in practice; instead, it appears that earnings retained are being priced correctly. Which is only reasonable, if you think about it.


I think the advantage of a dividend strategy isn't the dividends themselves. It is instead the perception that bonds are not needed and therefor are 100% equities. Over long term this "should" beat out a 3 fund portfolio as the safety of fixed income is a drag on returns. Prior to becoming a boglehead, I was putting together my dividend portfolio. I must admit, the euphoria of a constant cash stream is tough to get past. Especially when my stock's dividends continue to increase yearly. I opted out of that pathway for a few reasons. The biggest for me was taxes. I max out my tax advantage space and invest heavily in a taxable account. When taxes went up on dividends to 23.8% I realized I needed a different plan. Taxes were a much bigger drag on my returns than the 30% bonds I currently own.

User avatar
ogd
Posts: 4809
Joined: Thu Jun 14, 2012 11:43 pm

Re: Dividend growth question

Post by ogd » Sun Jun 15, 2014 6:09 pm

Beckmaster wrote:I think the advantage of a dividend strategy isn't the dividends themselves. It is instead the perception that bonds are not needed and therefor are 100% equities. Over long term this "should" beat out a 3 fund portfolio as the safety of fixed income is a drag on returns. Prior to becoming a boglehead, I was putting together my dividend portfolio. I must admit, the euphoria of a constant cash stream is tough to get past. Especially when my stock's dividends continue to increase yearly. I opted out of that pathway for a few reasons. The biggest for me was taxes. I max out my tax advantage space and invest heavily in a taxable account. When taxes went up on dividends to 23.8% I realized I needed a different plan. Taxes were a much bigger drag on my returns than the 30% bonds I currently own.

But it isn't just about perception, it's also about the realities that could make bonds needed. Dividends or not, this echoes the 100% stock threads which we've had quite a bit of lately in this bull market, including a 10 page monster back in February ("why bonds at all"). The purpose of bonds isn't just to steel you against market drops, whereby you'd be tempted to think all you need is a strong stomach or mental tricks like "dividends are forever". There are several other reasons to put a floor under your portfolio; to me the important ones are: you might need the money sooner than you think if life takes an unexpected turn, and also the possibility that the stock market / economy goes in the dumps and doesn't recover for decades. Despite the historical rarity in the US of such an event, there is no law of nature (or government guarantee) that says stocks have to spring back after a few years of unpleasantness.

Anyway, more has been said on said threads than needed to be said, so I refer you to those. Beware the temptations of the bull market. I would, however, question the proposition that taxes are such a big drag that they overcome the current low bond yields. That can't really be the reason.

Snowjob
Posts: 1316
Joined: Sun Jun 28, 2009 10:53 pm

Re: Dividend growth question

Post by Snowjob » Sun Jun 15, 2014 6:32 pm

ogd wrote:
Snowjob wrote:I stand by my prior assertion, that on the margins, the dividend in the downturn is actually a net positive if reinvested. Even with the 15% drag its probably on balance better then having it retained and though in a tax advantaged account its a clear win. The simple fact is that by and large corporations get conservative in downturns.

Total return (aka the "growth of $10K" type of graphs) include dividends reinvested. If this was such a huge advantage in a crash, we'd see it in returns and certainly in risk-adjusted returns. But like many other feel-good dividend stories, it doesn't show up in practice; instead, it appears that earnings retained are being priced correctly. Which is only reasonable, if you think about it.


You can't use use a total return graph to refute what I laid out above. I'm not even suggesting that a dividend strategy will out perform over a business cycle -- frankly I don't think there is any strategy that will consistently out perform as long as you stretch the time horizon long enough. I'm simply saying that in a down turn a dividend is better than the whole lot of nothing most companies do. All you need to do is look at buy backs as an example as an alternative use, most companies "invest" in their own stock when times are good (and prices are high) because management is not afraid of the future. Conversely they slow way way way down when there is a down turn and the price of their own stock is actually low because they are afraid of the future. Investment in Cap ex etc also follows this, basically they miss the best opportunities to buy. However, corporate culture in the US is that most companies last resort is to cut a dividend. So for the investor re-investing that dividend at the depressed price is effectively doing a highly accretive buy back when the company doesn't have the guts to do so.

I refuse to believe that an investor in XYZ company in universe A that skipped its dividend in march of 2009 at rock bottom, holding that cash on the balance sheet for a year or so before investing it back in the business would be better off than an investor in XYZ company in parallel universe B that paid that dividend which was reinvested at a rock bottom price in 2009.

Maybe if I use the word buy back instead it makes more sense I don't know.

EnjoyIt
Posts: 1314
Joined: Sun Dec 29, 2013 8:06 pm

Re: Dividend growth question

Post by EnjoyIt » Sun Jun 15, 2014 6:51 pm

ogd wrote:But it isn't just about perception, it's also about the realities that could make bonds needed. Dividends or not, this echoes the 100% stock threads which we've had quite a bit of lately in this bull market, including a 10 page monster back in February ("why bonds at all"). The purpose of bonds isn't just to steel you against market drops, whereby you'd be tempted to think all you need is a strong stomach or mental tricks like "dividends are forever". There are several other reasons to put a floor under your portfolio; to me the important ones are: you might need the money sooner than you think if life takes an unexpected turn, and also the possibility that the stock market / economy goes in the dumps and doesn't recover for decades. Despite the historical rarity in the US of such an event, there is no law of nature (or government guarantee) that says stocks have to spring back after a few years of unpleasantness.


There is also a historical rarity that the US will default on its own bonds. But it can also happen. In reality no one know what will happen tomorrow. It could be rampant hyperinflation or a long dragged out depression. I re-iterate that we hold bonds as a psychological safety net. In a true armageddon neither bonds nor dividends will do you nay good.

ogd wrote: Anyway, more has been said on said threads than needed to be said, so I refer you to those. Beware the temptations of the bull market. I would, however, question the proposition that taxes are such a big drag that they overcome the current low bond yields. That can't really be the reason.


I don't understand your comment. There are multiple reasons why I switched from a dividend strategy. The biggest one was my 23.8% tax on my dividends. My bond funds are not being taxed as I invest in intermediate term tax exempt in taxable in my 401K I use total bond index. My equities index fund is taxed only on its dividends which are 1.74%

User avatar
ogd
Posts: 4809
Joined: Thu Jun 14, 2012 11:43 pm

Re: Dividend growth question

Post by ogd » Sun Jun 15, 2014 8:14 pm

Snowjob wrote:I'm not even suggesting that a dividend strategy will out perform over a business cycle -- frankly I don't think there is any strategy that will consistently out perform as long as you stretch the time horizon long enough. I'm simply saying that in a down turn a dividend is better than the whole lot of nothing most companies do. All you need to do is look at buy backs as an example as an alternative use, most companies "invest" in their own stock when times are good (and prices are high) because management is not afraid of the future. Conversely they slow way way way down when there is a down turn and the price of their own stock is actually low because they are afraid of the future. Investment in Cap ex etc also follows this, basically they miss the best opportunities to buy. However, corporate culture in the US is that most companies last resort is to cut a dividend. So for the investor re-investing that dividend at the depressed price is effectively doing a highly accretive buy back when the company doesn't have the guts to do so.

I refuse to believe that an investor in XYZ company in universe A that skipped its dividend in march of 2009 at rock bottom, holding that cash on the balance sheet for a year or so before investing it back in the business would be better off than an investor in XYZ company in parallel universe B that paid that dividend which was reinvested at a rock bottom price in 2009.

Maybe if I use the word buy back instead it makes more sense I don't know.

It's easy to imagine only the scenarios in which returning cash was an advantage. But consider these balancing aspects: dividends reinvested / buybacks (difference is indeed irrelevant here) at very high prices and on the way down; more importantly, companies with too little cash seeing their credit dry up and being unable to continue doing business without some really bad financing deals; companies unable to snap up good real estate or income producing assets on the cheap, so as not to get penalized for cutting the dividend. Bottom line is, in a crash, good solid earnings and/or a cash cushion are a major advantage in a number of ways whether they get paid out or not. Just like they are for you as an individual: you can use them to reinvest or to avoid having to sell equities if you get fired.

Snowjob wrote:You can't use use a total return graph to refute what I laid out above.

Actually, a total return graph with dividends reinvested would show exactly that advantage, if it existed. Looking at the downslope, dividend stocks would drop less. Over the entire cycle, it would be seen in the Sharpe ratio or other risk-adjusted return measures, as the dividend purchases soften the volatility. But none of this happens. We know this, it's been well studied. If dividend stocks acted partially like bonds or had clear advantages, a lot of investing theory would be different.

User avatar
ogd
Posts: 4809
Joined: Thu Jun 14, 2012 11:43 pm

Re: Dividend growth question

Post by ogd » Sun Jun 15, 2014 8:28 pm

Beckmaster wrote:There is also a historical rarity that the US will default on its own bonds. But it can also happen. In reality no one know what will happen tomorrow. It could be rampant hyperinflation or a long dragged out depression. I re-iterate that we hold bonds as a psychological safety net. In a true armageddon neither bonds nor dividends will do you nay good.

Nope, it's not the only reason, at least not for this investor. I'm not preparing for "true armageddon" here, because I don't think it's either possible or worth it to try to do that. Instead, I am preparing for a scenario where the economy is depressed for a long time and the US government doesn't simultaneously decide to pour fuel on the fire by deciding to not pay up with the dollars they control. And even if a scenario exists where neither bonds nor stocks are good, at least I am preparing for all the others.

Making it only about psychology presents the temptation of grand-standing. When in reality this is just as much about battles that the investing equivalent of Braveheart would still lose.

Beckmaster wrote:I don't understand your comment. There are multiple reasons why I switched from a dividend strategy. The biggest one was my 23.8% tax on my dividends. My bond funds are not being taxed as I invest in intermediate term tax exempt in taxable in my 401K I use total bond index. My equities index fund is taxed only on its dividends which are 1.74%

Not to belabor the point too much -- but you have to remember that the currently high after-tax rewards of munis come at a price; see the discussion in this thread for example: viewtopic.php?f=10&t=140884&newpost=2091182 . If my tax bracket on interest income would be as low as 23.8%, I wouldn't hold munis, I would hold taxable bonds, which would still be less efficient than dividend stocks. And in 401k stocks too would be tax exempt. So, again, this can't be the reason unless you mix it up with some considerations about bonds actually being desirable (which I agree with).

Snowjob
Posts: 1316
Joined: Sun Jun 28, 2009 10:53 pm

Re: Dividend growth question

Post by Snowjob » Sun Jun 15, 2014 9:41 pm

ogd wrote:
It's easy to imagine only the scenarios in which returning cash was an advantage. But consider these balancing aspects: dividends reinvested / buybacks (difference is indeed irrelevant here) at very high prices and on the way down;



Huh? I never said returning cash is always good. I specifically called out expensive (high priced) buy backs above as an example of this.

ogd wrote:
companies unable to snap up good real estate or income producing assets on the cheap, so as not to get penalized for cutting the dividend.



How big of a deal do you envision pulling off relative to the dividend? I think your miss-judging this. Take my company for example, today we are aprox. 110B market cap, even at the worst point in 2009 when that was cut to 1/3rd, call it 36B, the dividends paid were 1.3B or about 3.6% or 3.7% of the reduced number. You will not find any sort of needle moving acquisition for that price, you really need something bigger that would require debt & equity financing. Yes there may be cases where in some industries at the right time you can find a deal of that size that would exceed the IRR of a buyback (or to the owner a reinvested dividend) but if its that cheap company will find a way to finance it because its small.

ogd wrote:Actually, a total return graph with dividends reinvested would show exactly that advantage, if it existed.


Can you show me a chart of company X with vs the chart of company X in an alternate universe where the dividends for 2009 were not paid ?

Of course not, thus you can not disprove (or prove, since we don't know if the company would really sit on the cash or make that 1.3B all cash accretive investment...)


We can cherry pick here and there, but the hope is that companies will always invest for the long term to achieve the best possible returns regardless of what those investments are. I could care less if 1 year it was buy backs another year acquisitions another year massive CapEx and the next year a dividend because nothing was cheap. I really don't care. But the corporate culture in the US is do not cut the dividend, so in that light, in a downturn, this essentially forced buyback if reinvested, does more shareholder good than if that cash were to stay on the collective balance sheets of the market if only because companies would not invest the same amount out of fear -- maybe 50% of them will, but that's still not good enough. This is the only point I have been arguing this entire time.

User avatar
ogd
Posts: 4809
Joined: Thu Jun 14, 2012 11:43 pm

Re: Dividend growth question

Post by ogd » Sun Jun 15, 2014 10:08 pm

Snowjob wrote:
ogd wrote:Actually, a total return graph with dividends reinvested would show exactly that advantage, if it existed.


Can you show me a chart of company X with vs the chart of company X in an alternate universe where the dividends for 2009 were not paid ?

Of course not, thus you can not disprove (or prove, since we don't know if the company would really sit on the cash or make that 1.3B all cash accretive investment...)

Of course I can't prove a hypothetical. In only a limited sense is this the entire (and would-be misguided) line of reasoning for us both; indeed, you don't have a choice between company X with and without dividends, so that line of reasoning would be meaningless. But you do have a choice between companies X and Y, and the evidence and graphs and everything else shows that dividends don't matter for that choice. Which in turn means that dividend stocks are not any more bond-ish than non-dividend stocks and they don't reduce risk. This is the entire point of this thread, or at least my participation herein.

Consider how questionable the proposal that for every single company that pays dividends it's a "net positive" "even after a 15% tax drag" (your words above), yet somehow as a group the advantage doesn't show even when those taxes are ignored (the evidence). There is a way out of this conundrum, which is to say that the companies paying dividends are self-selecting, i.e. they tend to be those without good internal reinvestment opportunities. I can sort of accept this to some degree, though it's tough to imagine that it overcomes the tax problem, and furthermore it doesn't really impact my investing.

Snowjob wrote:But the corporate culture in the US is do not cut the dividend, so in that light, in a downturn, this essentially forced buyback if reinvested, does more shareholder good than if that cash were to stay on the collective balance sheets of the market if only because companies would not invest the same amount out of fear -- maybe 50% of them will, but that's still not good enough. This is the only point I have been arguing this entire time.

I just don't buy this, Snowjob. Like I said above, it doesn't show up in the performance of dividend companies that "the reluctance" is a good thing. And I can offer the counter-point that I don't like having the management of the company feeling under pressure from me, the investor, to use cash in this or that way. Management is their business, show me the returns and I'll be happy. But, like the paragraph I didn't reply to about your company, these are speculative generalities and ultimately affect nothing. To me, the proof about how I need to invest is in the total returns and in the meta-reasoning that all of this is known by the markets anyway and few things are systematically mispriced.

Snowjob
Posts: 1316
Joined: Sun Jun 28, 2009 10:53 pm

Re: Dividend growth question

Post by Snowjob » Sun Jun 15, 2014 10:48 pm

ogd wrote:
There is a way out of this conundrum, which is to say that the companies paying dividends are self-selecting, i.e. they tend to be those without good internal reinvestment opportunities. I can sort of accept this to some degree...



I agree, I think there is probably some self selection when it comes to paying a "meaningful dividend"

ogd wrote:
Snowjob wrote:But the corporate culture in the US is do not cut the dividend, so in that light, in a downturn, this essentially forced buyback if reinvested, does more shareholder good than if that cash were to stay on the collective balance sheets of the market if only because companies would not invest the same amount out of fear -- maybe 50% of them will, but that's still not good enough. This is the only point I have been arguing this entire time.

I just don't buy this, Snowjob. Like I said above, it doesn't show up in the performance of dividend companies that "the reluctance" is a good thing.



You just finished agreeing with me that you can't prove / disprove this point (Value of the dividend in a downturn) as we have no alternative universe to test this in... If your counter point was, "BS companies would certainly invest 100% of the would be dividends in IRR projects meeting or exceeding the value of a buyback (ie the reinvested dividend)" I would say we could just agree to disagree, nothing worth arguing over.

ogd wrote:
And I can offer the counter-point that I don't like having the management of the company feeling under pressure from me, the investor, to use cash in this or that way. Management is their business, show me the returns and I'll be happy.


you mean like this?
Snowjob wrote:..the hope is that companies will always invest for the long term to achieve the best possible returns regardless of what those investments are. I could care less if 1 year it was buy backs another year acquisitions another year massive CapEx and the next year a dividend because nothing was cheap.


Honestly I think we are only posturing over what we think management would do in lieu of a dividend during a down turn. I believe they will be too conservative. In either case it will mean very little relative over the course of 70 years of investing one way or the other.

Post Reply