The news this morning sounds alarming; GM has suspended its dividend. And according to today’s Wall Street Journal, GM is not alone. So far this year, more companies have suspended or canceled their dividends than in the previous 10 years combined.
But what are dividends? Do they really matter to investors?
One of our favorite investment strategies is based on creating a portfolio of strong dividend paying companies. Dividends are payments companies make to investors as an incentive for ownership. They can be started, stopped, increased or decreased at any time by the board of directors. There are a number of elite companies who have long histories, even decades, of paying and increasing their dividends. But in difficult economic times, it can sometimes make sense for a company to set aside cash flow that would normally go to paying dividends, for more critical needs.
Many investors use dividends from their portfolio to supplement their income. So it’s essential to understand how much of a company’s cash flow is dedicated to the dividend payment for calculating that income flow.
The other thing that dividends provide is a measure of how attractive stocks might be as compared to bonds, which pay interest. The S&P 500 current dividend yield is 2.05%. That’s up from 1.73% at the beginning of the year. Obviously, that’s not because companies are increasing their dividends, but because the overall price of stocks has gone down. But compared to the yield on government bonds, as represented by the 10-year treasury of 0.65%, the S&P 500’s yield of 2% is pretty attractive.
We believe as the economy only gradually begins to recover more companies could cut or decrease their dividends as they make adjustments in their business models. However, the companies that do figure this out will continue to pay good dividends, and some will even increase theirs. This is why it’s so important to know what you own.
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. All performance referenced is historical and is no guarantee of future results. All indices are unmanaged and may not be invested into directly.The economic forecasts set forth in this material may not develop as predicted and there can be no guarantee that strategies promoted will be successful.The companies presented here are for illustrative purposes only and are not to be viewed as an investment recommendation.