What Happened To Dividends?

I picked up a new book at the library today, and found some interesting information.  According to the book “Beating the S&P with Dividends” by Peter O’ Shea and Jonathan Worrall, of Mergent, Inc., the average dividend yield, as well as the number of companies that pay dividends, has seen a steady decrease since the early 1900’s.

From their research, it seems that back in the day, the main reason people bought stocks was for the income they provided.  Even John D. Rockefeller was quoted as saying “Do you know the only thing that gives me pleasure?  It’s to see my dividends coming in!”

As of 1999, 20% of the SP500 companies paid dividends, compared with 40% in the 1970’s.  The average yield from 1911 to 1920 was 6.1%.  By the 1970s and 80s, the yield dropped to 4.1%, and then to 2.1% by the 1990s.

The authors cite a number of reasons that dividends fell out of favor over the last century.  Among them was the issue of double taxation.  Dividends are taxed twice, once as corporate profits and again as individual income.  As the great bull market of 1982-2000 took hold, management believed they could create more value for shareholders by buying back shares and investing in long-term growth, thus creating capital gains.  Whether the increasing share prices of the time were due to the bull market or adopting this new financial strategy is debatable.

Another possible reason for decreasing dividends was the birth of a new industry centered around a new medium: the internet.  As tech companies gained prominence, investors used capital gains as the main gauge of investment return.  25 year old dot-com millionaires were everywhere, and everyone wanted to be the next one.

Tech companies did not need to pay dividends to attract investors; capital gains were plenty.  Nevermind that these companies had no ability to pay dividends, because many had no actual revenues or earnings.  But people kept buying in, and prices kept going up.  Until one day they didn’t.  And everyone realized that these companies weren’t as good as they thought.  Then BOOM!  About 40% of the market was wiped out.

So what does the future hold for dividends?  Only time can tell, but I would not be surprised to see a return to a more dividend-centric investor.  After ten years of stagnant capital gains, and many investors approaching retirement, they may start looking for the stability and income that comes from strong, stable, dividend paying securities.  In the current economic situation, a 6% average yield would be pretty attractive.