John D Rockefeller reportedly stated that “The only thing that gives me pleasure is to see my dividend coming in.”
Investors are often anxious, sometimes even scared, when equity markets suffer the sort of day to day volatility seen in August and January of last year. However, these moves need to be put into perspective. One of the unfortunate features of the reporting of stock markets is the emphasis on the closing price of the major indices, funds and share prices – for example, the short-term focus on the fact that the FTSE100 index might have fallen last week, which funds to buy next week and the increase in the oil price due to the latest OPEC meeting minutes.
A long-term investor should always remember the initial reasons for buying shares and other asset classes, directly or via their retirement fund. In my opinion, over time a well-structured investment approach will add value, consistency and confidence more than one based on short-term instinct and prediction.
A Company’s Financial Well-Being & Dividends
One of the simplest ways for companies to communicate financial well-being and shareholder value is to pay an annual dividend to their shareholders. Dividends are cash distributions that many companies pay out to shareholders from their earnings. They can send a clear message about the company’s current, future forecasts and performance. A company’s capacity and readiness to pay a steady stream of dividends over time provide potential investors and current shareholders with some good signs about the company’s fundamentals.
Studies have shown that over time the majority of gains from buying shares come from the payment of dividends and thus re-invested dividends. Dividend payments from your stock portfolio can mount up over the years, especially with the added help of compound interest.
For example, let’s look at the US oil giant, Chevron. Chevron is in very select company when it comes to its dividend payout. The integrated supermajor has increased its annual payout for 28 straight years and has consistently paid an annual dividend every year since 1926.
Other company’s pay the following dividends currently:
If you compare these payments to the yields available on cash (0.00% – 0.50%) and bonds (0.00% – 2.00%), you can see how important the returns in the form of a dividend payment from a stock-holding are to investors’ portfolios.
Can a dividend be reduced or even cut altogether?
If a company with a history of consistently rising dividend payments suddenly cuts its payments, investors may treat this as a signal that trouble is looming. For example, in September 2008, the Bank of Ireland cut its full-year dividend by 50 per cent to strengthen its capital position after warning that bad debts would rise in the second half of the financial year and further still in the following year. In fact, Bank of Ireland has not paid a dividend since 2008. Fortunately, they did consider resuming dividend payments in 2016 as earnings had grown, however the payment was not made in the end, chiefly due to Brexit concerns. It will be very interesting to see if they do pay a dividend in 2017.
Can a Company borrow to pay a dividend?
While a history of steady or increasing dividends is certainly reassuring, investors need to be wary of companies that rely on borrowings to finance those payments. Some company’s might borrow to pay a dividend to manage observations surrounding their business model and the underlying financial fundamentals. This type of approach would unlikely be an effective strategy against engaged, active investors who are monitoring the company and the financials. In my opinion, if a company can raise cash through borrowing then surely they should be investing it in developing the business, not just giving it to shareholders to keep them contented in the short-term.
In summary, in a long-lasting environment of low inflation, low bond yields and low interest rates, many investors will appreciate the advantages from holding equity and other income producing assets to help protect portfolios and provide long-term returns, even during volatile conditions.
Gerard O’Brien LL.B LL.M CFP® QFA is a Certified Financial Planner and the Owner of Heritage Wealth Management, a Financial Planning practice based at 27 Cook Street, Cork. For more information, contact Gerard at firstname.lastname@example.org www.heritagewealth.ie
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