Investing Strategies

The Confusion Over Stock Dividends


The Confusion Over Stock Dividends

Photograph by Fausto Giaccone/Anzenberger/Redux

Did anyone bother to notice that the Standard & Poor’s 500 index quietly hit an all-time high this week?

All-time high, that is, if you were good and reinvested your dividends, as all self-respecting brokerage firms give you the option of doing. Great Recession and jobless recovery be damned: You’d be ahead of where you were when the market set its high in October 2007 (otherwise, sans dividend reinvestment, the index remains about 10 percent off that peak).

This should underscore the importance of dividends to any sane portfolio strategy. After all, these seemingly boring, old-school payouts, dutifully reinvested, have contributed nearly half the market’s long-term total return. In the past 10 years alone, the S&P 500′s total, dividend-reinvested return more than doubled its simple price gain.

And dividends mean even more in a period of piddling interest rates. Earlier this week on Bloomberg Radio, Jenny van Leeuwen Harrington of income investing shop Gilman Hill Asset Management illustrated that today’s model balanced bond and stock portfolio for retirees provides a fifth of the after-tax income that it did in 1990—so stingy are Treasury yields. This is forcing her to seek more income from equities.

Yet treating stocks as income-generators comes with a cost. “Rather than viewing dividend stocks as a way to capture extra yield, in the past we have stressed that dividend stocks should simply be viewed as a slightly less risky form of stock investing,” Jim Bianco of Bianco Research wrote this week. “As such, we should expect dividend-paying stocks to outperform during bear markets and underperform during bull markets.”

He points out that during the growling bear market of October 11, 2007, to March 6, 2009, dividend-paying stocks outperformed the S&P 500 Equal Weight Index, minus 35.74 percent on an annualized basis vs. minus 46.10 percent. But during the ensuing bull market of March 6, 2009, to May 2, 2011, dividend-paying stocks underperformed the S&P 500 Equal Weight Index, plus 44.38 percent vs. plus 56.64 percent.

The long and short of this analysis: Dividend stocks seem to be taking on two bond-like characteristics: providing income and stabilizing a portfolio. They may not be long-term market-beaters, but you already know that trying to beat the market is a losing game.

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Farzad is a Bloomberg Businessweek contributor. Follow him on Twitter @robenfarzad.

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