Thursday, July 21, 2011
The chart at the right shows dividends paid by S&P 500 companies on a rolling 12 month basis since December of 2005.
For the first three years of this period, dividends rolled higher, peaking near $31. Beginning in August of 2008, dividends fell like a rock, a move that more than wiped out the gains since 2005. Since the early part of 2010, dividends have once again reversed course and are now rolling back toward their old highs. Can this roll continue, or are there more rocks in our future?
Over the last 12 months, S&P 500 companies have paid roughly $25, still far below the nearly $31 all-time high they recorded at the peak in 2008. However, the red dashes at the far right of the chart show Bloomberg's quantitative estimate of total dividends paid by year-end 2011. Bloomberg believes that the current roll will continue. They estimate total dividends for 2011 will reach $29, not far from the all-time high. Bloomberg also estimates that the old high will be reached by the end of 2012.
If 2011 total S&P 500 dividends paid do reach the $29 estimate, it would mean that dividends would have grown for the year by nearly 21%. Many analysts estimated that S&P 500 earnings would likely grow at that rate, however, almost no analyst we follow made such a bold estimate for dividends. After all, corporations have been fiercely focusing on free cash flows, and dividend payouts diminish cash.
We believe this dividend revival makes complete sense. Corporations have produced tremendous free cash flows in recent years. This build up in cash has three main potential uses: 1. share buy backs, 2. acquisitions, and 3. dividend hikes. The companies we follow have done a little of all three, but they have hiked dividends at a higher rate of growth than we would have expected. We believe the reason for this has been the growing recognition by many firms that dividend-paying stocks are enjoying renewed interest among many investors, particularly those near or in retirement. In hiking dividends they are just doing what their shareholders want. I realize this is a very novel idea -- that a company would do what its shareholders want -- but we believe that is exactly what is happening. There are some firms that have hiked their dividends two and three times in the last twelve months. Activity of that kind is not an accident. They know what they are doing and they have the cash flows to afford it. We believe this dividend roll will continue.
If dividend hikes have been on a roll and stock prices follow dividends, a theory to which we subscribe, then current stock prices may roll a lot higher. We would not be surprised to see them back to their old highs seen in 2008. This won't happen in the next six months, but we can see it occurring by the end of 2012.
There are certainly all kinds of worries to contend with, but having a positive outlook is sometimes the best strategy when everyone seems to be throwing rocks at the market's prospects.