A Dividend Revival Amid Falling Rates?

Following the Federal Reserve's half-point cut in interest rates, we expect the healthy yields recently enjoyed from "risk-free" assets¹ may begin to decline. We think this creates an opportune time to take a deeper look at the advantages of dividend-paying stocks.

While the cohort of highest-yielding equities initially may appear attractive, we find they are often associated with higher payout ratios and lower future growth prospects than some of their more moderate-yielding counterparts. In our experience, however, companies that can consistently grow their dividends tend to exhibit attractive characteristics, such as resilient earnings growth, higher return on equity and attractive long-term performance. With that in mind, now seems like a good time to revisit the key benefits of a dividend growth strategy.

Compelling long-term performance: A look at data provided by Ned Davis demonstrates that dividend growers and initiators have compounded at an average annualized rate of 10.34% from January 1, 1973, to August 31, 2024, outpacing the equal-weighted S&P 500 index which returned 7.82% over the same time period.

Source: Ned Davis Research for the period 1/31/73-8/31/24. Data is updated monthly. Further distribution prohibited without prior permission. Copyright 2024 © Ned Davis Research, Inc. All rights reserved.Past performance does not guarantee future results. It is not possible to invest directly in an index.

Lower Volatility: In addition to providing the highest average annualized rate of return over the last 50 years, dividend growers and initiators have displayed the lowest standard deviation,² a measure of risk, relative to companies that cut or do not grow their dividend, as well as non-payers and the equal- weighted S&P 500.

Income: As products and services increase in price due to inflation, a company's revenue and potentially its earnings and dividends will increase as well. By collecting a part of those earnings through a dividend, investors can better protect their purchasing power with the income stream dividends provide. Typically paid either monthly or quarterly, investors can choose to reinvest that dividend or receive distributions to fund their lifestyle.

Why now?

As interest rates and bond yields move lower, dividend-paying equities become more attractive as their relative yield increases. As shown below, within the S&P 500, dividend growers and initiators historically have outperformed other dividend payers and non-dividend payers over a range of three months to 36 months, on average, following interest rate cuts.

Source: Ned Davis Research for the period 1/31/73-8/31/24. Data is updated monthly. Further distribution prohibited without prior permission. Copyright 2024 © Ned Davis Research, Inc. All rights reserved. Note: Reflects Bloomberg Fed. Funds Upper Limit Target (FDTR) from 1973-2024 and represent 95 rate cuts through 8/31/24. Fed Cut defined when FDTR month/month change is negative. 3-month and 6-month change is cumulative, while 12-month, 24-month, and 36-month, is annualized. Past performance does not guarantee future results. It is not possible to invest directly in an index.

Simply stated, the combination of growth, income and moderate stability may make a dividend growth strategy an attractive option for long-term investors. With the Fed's recent aggressive interest rate cut—and more cuts anticipated for this year—investors may be looking for alternative sources of yield. We believe now is a key time to consider a dividend investment strategy.

Bottom line: Falling interest rates may curb the yield and income from various fixed income assets, making dividend-growing stocks, an attractive portfolio option, even more compelling as the Fed pursues a rate-lowering path.

Disclosures:

Dividend Policy Description: The performance of each group is based on the equal-weighted geometric average of dividend-paying and non-dividend-paying historical S&P 500 stocks, rebalanced monthly. Each stock's dividend policy is determined on a rolling 12-month basis. For example, a stock is classified as dividend-paying if it paid a cash dividend at any time during the previous 12 months. A stock is reclassified only if its dividend payments change. Dividend growers and initiators include stocks that raised their existing dividend or initiated a new dividend during the preceding 12 months. Dividend cutters or eliminators include stocks that lowered their existing dividend or stopped paying regular dividends during the preceding 12 months. The returns do not reflect the deduction of any fees, expenses or taxes that would reduce performance in an actual client portfolio. Returns for stocks that paid dividends assume reinvestment of all income. The periods shown do not represent the full history of the S&P 500; it is the history maintained by the data source. It is not possible to invest in an index. These groups have been determined by Ned Davis Research, Inc. Further distribution of this information is prohibited without prior permission. Copyright 2024 © Ned Davis Research, Inc. All rights reserved.

S&P 500 is a stock market-capitalization weighted index tracking the stock performance of 500 of the largest U.S. companies.

¹A risk-free asset is a term broadly used to describe a security that has a guaranteed future return and very little possibility of loss. Debt obligations issued by the U.S. Department of the Treasury (bonds, notes, and especially Treasury bills) are considered to be risk-free because the "full faith and credit" of the U.S. government backs them.

² Standard deviation is a measure of risk that helps determine market volatility or the spread of asset prices from their average price. When prices move broadly, standard deviation is high, meaning an investment will be risky.