By Mark Hulbert
‘Dividend aristocrats’ can do more for risk-averse portfolios than supersafe Treasury bonds
Dividend stocks deserve a place in your investment portfolio, even though they have seriously lagged the overall market. That’s because broad market indexes are not necessarily the appropriate benchmark for dividend stocks’ performance. Many conservative investors view such stocks as a way to reduce risk – to take some, but not all, chips off the stock market’s table.
As a result, charts like the one below – which plots the returns of the four dividend ETFs with the most assets under management-are not the final word on whether dividend stocks have a role to play in your portfolio.
To illustrate the role that such stocks can play, consider an investor who has become so nervous about a stock market bubble that he is contemplating moving a chunk of his portfolio out of stocks into intermediate-term U.S. Treasury bonds. While this portfolio move is understandable, investing that chunk instead in dividend-paying blue-chip stocks would likely do much better over a decade.
Financial analysts tell me that their clients find it hard to accept this conclusion because the 10-year Treasury BX:TMUBMUSD10Y is yielding so much more (4.1%, at last check) than dividend-paying blue chips. The current yield of the S&P 500 Dividend Aristocrats index XX:SP50DIV was recently at 2.5%; this index contains S&P 500 SPX stocks that have increased their dividends in each of the past 25 consecutive years – the bluest of the blue chips
Yet it would be short-sighted to favor Treasurys because of the difference in these yields. That’s because the average Dividend Aristocrat will almost certainly continue to increase its dividend in coming years. While it’s possible that this or that individual aristocrat will fail to increase its dividend, it’s hard to imagine that the entire group of such stocks will fail to do so over a decade’s time.
To illustrate, consider the five dozen stocks that made up the S&P 500 Dividend Aristocrats index at the end of calendar 2007. That was at the beginning of the Global Financial Crisis, which by many measures was the most severe economic downturn in modern U.S. history. As you can see from the chart below, the dividend-per-share of that 2007 list did fall during the GFC, but by 2012 they were above the 2007 level. A decade later they were 53% higher – having grown over those 10 years at a 4.4% annualized rate.
Even assuming we’re entering another economic downturn as severe as the GFC, I calculate that dividend stocks almost certainly will perform well enough so that their total return over the next decade is better than the 10-year Treasury.
The specifics are as follows: So long as dividends per share grow at the same rate as they did starting at year-end 2007, and dividend stocks’ produce a price-only return of at least 1.6% annualized between now and 2035, their 10-year total return will be ahead of a 10-year Treasury note.
A 10-year price-only return of less than 1.6% annualized is very unlikely. Just take a hypothetical portfolio that each year owned the 30% of stocks with the highest dividend yields. Based on all rolling 10-year periods over the last 70 years, this portfolio has done worse than 1.6% annualized just 10% of the time, based on data from Dartmouth College professor Ken French.
Even this low number overstates the risk, since the S&P 500 Dividend Aristocrats Index historically has outperformed a portfolio containing all high-yielding stocks. (Performance data for the S&P 500 Dividend Aristocrats index dates back to just 1989.)
In return for bearing this small risk of underperforming a 10-year Treasury, dividend stocks have a much higher probability of outperforming over the next decade. So don’t be too quick to let your fear of a bear market cause you to sell out of stocks altogether and invest in Treasurys. Dividend-paying blue-chip stocks appear to be a compelling alternative.
Mark Hulbert is a regular contributor to MarketWatch. His Hulbert Ratings tracks investment newsletters that pay a flat fee to be audited. He can be reached at mark@hulbertratings.com
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-Mark Hulbert
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