‘Do you know the only thing that gives me pleasure? It’s to see my dividends coming in.’ John D. Rockefeller
To this day we can still relate to the words of American industrialist John D. Rockefeller, despite their utterance over a century ago.
Be it a privately owned business or publicly listed stock, dividends come part and parcel with owning a portion of a business. Cash dividends have long been an effective tool used to attract investors to a company’s shares. ‘A bird in the hand is worth two in the bush’.
Dividends have historically been a way to disseminate information. A change in a company’s dividend could hint at financial health. In a world becoming increasingly dominated by information, mostly available at our fingertips, the power of the dividend, from this perspective at least, has diminished. Also, corporate finance departments have tools at their disposal, such as share buybacks, that have become increasingly popular.
Such phenomena, in addition to perhaps a shift in investor sentiment, have resulted in a reduction in the number of firms paying regular cash dividends to shareholders. The volume of dividends, however, has not necessarily decreased meaning that dividends are concentrated in a smaller number of companies. Dividend-targeting strategies, therefore, tend to be less diverse (Fatemi, A. & Bildik, R., (2012). “Yes, dividends are disappearing: Worldwide evidence,”).
‘Do lower dividends mean lower returns?’
Not necessarily. Once a stock goes ex-dividend, it’s price decreases by the amount of the dividend, ceteris paribus. Not issuing a dividend would mean the cash remains in the company and thus is still part of the shareholder’s claim on assets.
‘Does it matter to me what my portfolio yields from dividends?’
Not really. We adopt what is called a ‘total return’ approach to investing (For investors not requiring a ‘natural yield’ from the portfolio). We are agnostic to companies’ dividend policy and instead structure diversified portfolios with a focus on risk exposures. Your portfolio will usually generate some income from dividends each year, and sometimes some capital appreciation too. However, as figure 1 demonstrated, it doesn’t matter where that return comes from. One does not draw out cash, stare at two £20 notes and wonder: ‘which of these came from dividends and which from capital appreciation?’. Return, is return, is return.