The Power of Global Dividends

The Power of Global Dividends

Adam Sparkman: Good morning. Welcome, and thank you for joining us for today’s webcast, “Dividends Matter: Portfolio Resiliency in Uncertain Times”. My name is Adam Sparkman, and I am a client portfolio manager.

Up until last year, markets have spent much of the last decade in a stimulus-driven environment that has largely favored capital appreciation opportunities and de-emphasized the need for dividend income. As we now grapple with inflation uncertainty, slowing global growth and tighter financial conditions, there is a real cost of capital again, and we believe investors would be well-served to once again turn their attention to dividends.

To make that case today, I am joined by Ben Kirby, Thornburg’s co-head of investments and a portfolio manager on several of the firm’s strategies. Ben, thanks so much for joining us today. With that, why don’t I turn it over to you?

Ben Kirby: Thanks, Adam. I’d like to welcome everyone again to the web cast. I think we have some interesting content today, and very timely I think in the current market. Let’s talk about opportunities in equity income. This is a particularly interesting time we think to be looking at dividend-paying stocks. It’s not only a really attractive long-term strategy, and we’ll show data later on how powerful dividends are from a total return standpoint, but it’s actually especially well valued today, and there are some additional drivers from international markets. We also think Fed policy really makes this a special moment to be looking at equity income.

Maybe to give a bit of backdrop, this chart shows central bank balance sheets around the world, and this has been one of the big drivers of financial assets we believe over the past 15 years. These are pretty staggering numbers. To look on the right-hand side, you can see that the total central bank balance sheet– just looking at the Fed, the Bank of Japan and the ECB– was just under $5 trillion as we went back before the great financial crisis, and it peaked a couple years ago at about $25 trillion.

These are huge numbers, and with central bank balance sheets growing at a significantly faster rate than even nominal GDP, this has distorting effects on both the real economy and on asset prices, and we think that as we’re exiting this phase there are implications for investments today and for the next few years. In conjunction with the explosion of central bank balance sheets, going from $5 trillion to $25 trillion, there has also been a period of super low interest rates, practically zero from 2008 to 2020, with a very brief period there where the Fed was raising rates, but they never really got it much above 2 percent. That’s also a distorting effect on asset prices.

Today we’re back to about 5.3 percent, which as we put in this chart, is kind of the average interest rate in the period before the financial crisis, so we really do think that we’re in a different investing paradigm, a different investing regime, than we were in the period following the great financial crisis. This is a really important chart, and I want to just spend a little bit of time, explaining it and focusing on it. This chart shows that companies that pay dividends–let’s just look at the second-to-top line which is all dividend-paying stocks–and let’s compare that to the black line, which is non-dividend-paying stocks.

You can see that if you just kind of closed your eyes and bought all dividend-paying stocks you would have a return of about 9 percent a year, 9.12 percent, and you compare that to non-dividend-paying stocks, at about 4.19 percent, so over this time period, which is going back over 40 years, actually going back 50 years, we were able to enjoy dividend-paying stocks having higher total return and also lower standard deviation, which has been really beneficial as well.

We think you can do even better than that, so if you just apply a little bit of reasoning to your thought process, and you focus on companies that having growing dividends or dividend initiators, you can do even better, so you can have 10 percent return, compared to those companies that are cutting dividends of actually negative return over a 50-year time period, so this a powerful chart because it shows that dividend-paying strategies over time tend to generate very attractive long-term returns, and they tend to do so with less volatility. Both things we think investors should care about a lot, so that’s the long-term perspective.

Another way to think about dividends is as an inflation hedge, and so this chart shows going back to the 1940s looking per decade that companies that pay dividends have typically been able to grow their dividends at a rate that is faster than the rate of inflation. Think about that as an inflation hedge. We have just exited a period, or at least we are exiting a period of super normal inflation, and I think it brings to a lot of investors’ minds the importance of having that inflation protection, so dividends historically are a great inflation hedge. In almost every decade you have seen dividends grow as fast or faster than inflation. Certainly, in the post-War period 6 percent versus 3.6 percent is very compelling in terms of providing inflation-protected income.

This is another important chart.  We like to talk about two different concepts, two different terms. One is the concept of yield, and yield is a reference to the current dividend divided by the current price, and that’s represented by the dark blue line, which for many stocks, the stock market as a whole has a lower dividend yield today than it has been in the past. The other concept to think about is dividends per share, and that’s really what the light blue line shows. It shows that even as the yield on the market has fallen, the dividends per share or the actual dollars of income that you have received has increased rapidly. It’s actually doubled four times over the past 40 years almost doubling, typically about every 10 or 11 years, so again, that’s a very powerful concept.

Investors need to be mindful not only of the current yield, but also of the yield on cost, which is the yield that you’ll be able to enjoy in the future, based on your initial entry price, so we have dividend strategies that we talked about being attractive from a long-term perspective. We have dividend strategies being an inflation hedge, and in the previous chart, dividend strategies having the ability to grow that income over time even as the yield is lower.  It’s a compelling long-term strategy, which today is very attractively valued, so this is comparing global dividend-paying stocks relative to high-growth stocks from just very simple P/E valuations, and you can see that in the 2012 to 2016/2017 period, dividend-paying stocks were at about a 20 percent–call it 10 to 20 percent–discount to growth stocks.

You know, that makes sense. Dividend-paying stocks have lower growth, and so they should probably trade at a lower P/E valuation, but, you know, 10 to 20 percent discount for the better part of a decade, and then we see a significant derating period, and today that discount is 47 percent. That’s a massive discount, again, going from an average of 15 percent discount to today a discount of 47 percent. That really implies if you want to just flip the numbers around, that dividend-paying stocks would need to appreciate relative to growth stocks by about 80 percent to get back to that valuation discount that we had back in 2012 through 2016/17, so this is an attractive long-term investment approach for prudent investors and is currently trading at very attractive valuation levels.

Another component of the income story, when you look at equity income, is to realize that not all countries have similar dividend yields. In fact, the US domestic market that most of us focus on is one of the lowest yielding markets in the world. The United States is 1.7 percent, dividend yield for the index. That’s the lowest major yielding market in the world. It’s even lower than Japan today. Japan for many decades was even lower than the US. A prudent dividend equity income strategy really should also be a global strategy, and if you want to expand your universe to look at companies in Europe and the UK and Australia, Latin America, you can really have a much more balanced portfolio. You can have higher yield, and you can have more diversification as well.

It’s also important to point out that we have come through a period, again, tying back to the period of financial repression that we’ve been in with zero interest rates and central bank balance sheets expanding, we’ve been in a period for 15 years where international stocks have under-performed domestic stocks, and this chart just shows that this is an exceptionally long period of time for that to happen. There are absolutely periods where international markets out-perform domestic markets.

We think as we exit this period of unusual monetary policy that the next 5 or 10 years can look different for international markets than they have in the past 15 years. Lastly, to just continue to take a longer-term perspective, as long-term investors, we want to be mindful that dividends have historically accounted for a very significant portion of total return for long-term investors. Looking at the 2010s and the US market, dividends only accounted for about 20 to 25 percent of total return. If you look over longer time periods and also in other markets, dividends have accounted for much closer to 50 percent of total return, so 4 1/2 percent from income, and 4.6 percent from price appreciation. It’s important to just remind people that dividends are very important from a total return standpoint, even though the last 15 years has looked a little bit different.

Adam Sparkman: Ben, thanks so much for joining us today and for your time. To learn more about our market insights, please visit us at Thornburg.com.

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