Long Term Evolution in S&P500 Dividends

I came across a nice site for looking at the long-term dividend yield for the S&P500. Going back to the late 1800’s, we are currently near historic lows for the dividend yield for the S&P500. Sometimes a picture really is worth one thousand words, and that is the case here.

There are two major reasons why yields could be very low. First, if stocks are really expensive, the dividend yield will be low because the yield is the ratio of the dividend to price. The second possible reason for yields to be so low on a historical basis is that firms in the S&P500 may simply be paying smaller dividends and using their net earnings to exploit growth opportunities or for share buybacks.

The trailing 10-year P/E ratio for the S&P500 is at about 20.7, while the long-term historical average is around 16.4, so stocks are somewhat expensive today.

The second driver of lower dividends is more subtle. While many companies were forced to reduce dividends during the crash due to worsening business conditions, there was already a clear trend for companies to emphasize share buybacks at the expense of dividends back in 2007–before the crash.

The general decline in dividends, as compared to historical averages, due to both an increase in P/E ratios and due to changes in corporate policy to emphasize buybacks over dividends, have substantial implications for income investors. Dividends are determined by market conditions, trends in dividend policy, and the make-up of the S&P500. Are we looking at a world with permanently suppressed dividends from the major market indexes? Perhaps. To reach dividend yields on the S&P500 of 4.4% (the average going back to the late 1800’s) as compared to 1.9% today, we would need to see a major decline in the price of the S&P500, major changes in dividend policy, or both. Higher inflation also tends to correspond to increased dividend yields on stocks.

For income investors, neither an increase in dividend yield due to a decrease in stock prices nor an increase in inflation is helpful. A change in corporate policy to emphasize dividends would be the only happy scenario that would increase the effective dividend yield of the S&P500. Is this likely to happen? This is entirely unclear. When managers receive a chunk of their compensation in the form of stock options or have their performance judged on the basis of stock price, they have a clear incentive to use cash for buybacks rather than paying dividends.

The simple answer to the problem of low dividends is for investors to look at total return strategies (i.e. the combination of price appreciation and dividends) rather than focusing on dividends. Still, there is clearly a difference between real earnings thrown off by a company in the form of dividends and owning the potential for price appreciation due to growth.

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About Geoff Considine

After earning his Ph.D. in Atmospheric Science, Geoff worked for NASA for 3 years, leaving to become a quantitative analyst developing trading and portfolio management solutions for an energy trading firm. In 2000, Geoff became a consultant focusing on quantitative methods in portfolio management. Geoff founded Quantext in March 2002. Geoff has published commentary and analysis in a range of publications. Quantext is a strategic adviser to Folio Investing. Neither Quantext nor Geoff Considine is an investment advisor and nothing in any content provided by Geoff Considine shall be construed as advice.

1 thought on “Long Term Evolution in S&P500 Dividends

  1. James McRitchie

    I think you hit the nail on the head with stock options and other pay for performance compensation tied to stock price. Plus, shareowner meetings have changed substantially with advance notice requirements. It used to be that Lewis Gilbert could go to a shareowner’s meeting with a lot of proxies signed over to him and he could negotiate there on the floor for a higher dividend or lower CEO pay. Not all corporate governance changes are for the better.

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