Investors are too quick to shun dividend-paying stocks when inflation worsens. That’s because they’re focusing on too short of a time horizon. When measured over at least several years, dividends historically have done an admirable job of keeping up with inflation.
This correlation would be even stronger if the past two decades were not included, since DPS growth rates have risen markedly in recent years as inflation receded. Those divergent trends are most likely an exception that proves the rule, since the divergence likely was caused by the growth in share-repurchase activity among dividend-paying companies. Other things being equal, repurchases cause dividends-per-share to rise faster than total dividends.
Consider the nine calendar years from the beginning of 1973 through the end of 1981, during which the CPI rose at an annualized rate of 9.2%. During that period, the 30% of stocks with the highest dividend yields produced an annualized return of 9.9%, according to data from Dartmouth College finance professor Ken French — or 0.7 of an annualized percentage point better than inflation.
Even if this high-yielding portfolio does not beat the market, it’s telling how much better it did than a second portfolio that included the 30% of stocks with the lowest yields. This low-yield portfolio produced a return of 5.0% annualized over this same period. Given that this second portfolio’s return was calculated in the same way as the high-dividend one, and given that their turnover rates should be similar, the spread between the two — 4.
MktwHulbert Dollars are worth less when monetary inflation is higher, and vice versa. Thus DPS is relatively stable throughout changes in inflation and depends more on other factors such as financial engineering or operational success.
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