Steering Clients To A Better Dividend Investment Strategy

As U.S. and global economies accelerate, and companies earn fatter profits, dividends are the proverbial “area of interest” for profit-minded money managers.

Even global business icons love their dividend stocks and funds. Case in point: Bill Gates, founder of Microsoft. Of Gates 16 stocks held in his foundation’s portfolio, 11 pay out dividends.

But which of the two primary dividend strategies is best - dividend growth, or the more pervasive dividend yield? Lately, investment gurus are casting a vote for growth, which should outpace yield plays going forward.

The numbers back up that strategy. After a relatively weak 2016, global dividends are on the rise, according to Janus Henderson’s quarterly “Global Dividend Study.” Worldwide dividends grew to $219 billion in the first quarter 2017 – a 5 percent boost over the first quarter 2016.

“This was the fastest underlying increase since late 2015, and reflected the speedy transmission into company profits of an accelerating global economy,” the Henderson report stated. “Dividend growth was strong across most industries, and in every region of the world, except Europe, where too few companies make payments.”

Janus Henderson expects 3.9 percent underlying growth and 1.5 percent headline growth for global dividends, taking its global forecast to $1.18 trillion.

“We believe dividends will continue to present a great investment opportunity. Historically, dividends of the S&P 500 have been very consistent,” said Eric Ervin, CEO of Reality Shares, a San Diego-based research provider and ETF issuer focused exclusively on dividend growth investing.

Few 'Negatives'

Dividends “went negative” in only three of the last 45 calendar years, in a variety of market environments, growing 6.5 percent per year over that timeframe, he added.

“Performance is remarkably stable compared to the equity market, in which there have been 62 bull years and 54 bear years since 1900,” Ervin said. “As dividends tend to grow during bull markets and can comprise a large component of total return during low-growth market cycles, dividend growth investing should prove a solid investment strategy for decades to come.”

In that regard, it’s important for investors to consider quality dividend-growing stocks versus simply high-yielding stocks, Ervin stated.

“Our research has shown many of the highest yielding names are also the unhealthiest from a fundamental perspective, while dividend-growing stocks have historically underperformed dividend maintainers, dividend cutters and non-dividend payers in the S&P 500 since the early 1970s.”

Ideally, investors will focus on the “Holy Grail” of dividend stocks, those with yields above that of the S&P 500 and with strong fundamentals and future dividend growth potential, Ervin advised.

Reality Shares has two favorite dividend investment strategies, he explained, one focused on “isolated dividend growth,” and one on forward-looking dividend growth potential.

“As interest rates dropped to and remain at historic lows, investors can no longer rely on bonds, and there is a need for alternative strategies delivering absolute return,” he said. “This is where ‘isolated dividend growth’ came into the picture. Isolated dividend growth involves investing in the dividend growth rate of the market while avoiding stock market price exposure/volatility.”

For example, an investor could capture the dividend growth rate of all the companies in the S&P 500 at an aggregate level without worrying about whether the individual stock prices go up or down – they’re only concerned with whether or not dividends are rising.

“That’s the premise behind our DIVY ETF, packaging this investment opportunity in a transparent, liquid and cost-effective wrapper for the masses,” Ervin said.

Strategy-wise, advisors and investors should focus on next-generation ETFs that offer alternative strategies focused on risk-adjusted returns with high upside capture, while simultaneously identifying and avoiding low-quality stocks.

“ETF companies will continue innovating new strategies to access alpha-generating segments of the equity market,” he noted.

'Ruler Stocks'

Ervin isn’t the only fan of dividend growth strategies.

“Dividends have been responsible for about 44 percent of the S&P 500’s returns over the past 80 years,” noted Robert R. Johnson, president and CEO of The American College of Financial Services, a non-profit, accredited, degree granting Institution in Bryn Mawr, Pa.

Look no further than stocks that have increased their dividends for consecutive years to find good candidates for dividend investing, Johnson said.

“Some refer to these as ‘ruler stocks’ because if you laid down a ruler on a graph of dividends over time, the ruler would point to the northwest and most of the points would be very close to the ruler,” he said.

Two relevant examples are Johnson and Johnson (JNJ) and Genuine Parts Corporation (GPC), Johnson said.

“JNJ has increased its dividend for 54 consecutive years,” he said. “Plus, JNJ operates in the medical and consumer products fields - industries in which consumer demand is fairly stable regardless of the underlying economic cycle. JNJ is one of only two companies -- the other is Microsoft -- to have a AAA credit rating by the major credit rating agencies. It is a solid bet for the future for a conservative investor.”

As for GPC, it has increased its dividend for 61 consecutive years.

“GPC produces replacement auto parts, a business that is somewhat recession proof,” Johnson said. “In difficult economic times, people tend to keep their older automobiles longer and delay purchasing new cars. GPC also has global presence, as it is a distributor of automotive replacement parts in the U.S., Canada, Mexico and Australasia.”

Perhaps the best quality of the dividend growth strategy is that the dividend yield grows over time, from the original purchase price, Johnson said.

“Companies that have proven they have grown dividends consistently over many years are the best candidates,” he said.

Brian O'Connell is a former Wall Street bond trader, and author of the best-selling books, The 401k Millionaire and CNBC's Guide to Creating Wealth. He's a regular contributor to major media business platforms, including CBS News, The Street.com, and Bloomberg. Brian may be contacted at [email protected].

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