Tax law change may provide fair breeze.

Was it only yesterday that the single-minded pursuit of capital gains was the raison d'etre of every investment advisor? Price appreciation was the low hanging fruit in Wall Street's garden, easy to reap and tax efficient; a "conservative" expectation for investment returns was 15% a year.

Remember? In those banquet days of pleasant memory, dividends were like parsley on a boiled potato-a nice touch, but little observed and seldom discussed.

But now that we've entered our fourth year of capital gains famine, it seems the American investor's appetite may be changing. Or at least financial writers think it has. How else to explain the carloads of toner spent on the Bush administration's announcement that double taxation of corporate dividends is "bad policy"? Three years ago we wouldn't have cared, but now every dividend tax headline grabs our attention, doesn't it?

I am sure you have read more than you care to about whether or not a dividend tax cut is a sop to the rich, whether it is merely a bargaining chip to be traded in Congress for accelerated income tax cuts and an end to the "death tax," and how ridiculously complicated the capital gains tax cut, buried in the Administration's white paper, is. So we won't go there, if that's OK with you. If they eliminate the tax on dividends, great. If they cut it in half or otherwise reduce it, that's fine, too. As to its chances of passage, your guess is as good as mine.

What is more interesting, I think, and potentially more profitable if we get it right, is the apparent rising interest on the part of investors in receiving a goodly percentage of their expected returns upfront in cash. This very month the U.S. stock market celebrates, if that's the right word, three long years in the trenches. Yet, except for a flurry of enthusiasm in early January, there is still little evidence that the tide of battle is turning in favor of those hoping for a resumption of price appreciation. Rather, my non-scientific examination of what's doing well in the marketplace suggests to me a growing investor preference for equities with a decent yield.

Income's New Respectability

Interestingly, I have recently observed market-beating price performance in stocks whose dividends would not qualify for income tax exclusion under the much-heralded proposals, as well as in those that would benefit. I suspect that battle-weary investors, thirsting for some positive returns, and their advisors, eager for some good news to report from the front, have started to notice two things. One, that a single-digit upfront cash return, while not the 15% they recently considered a birthright, looks pretty attractive next to three straight years of dashed hopes. Two, that stocks with yields have actually been appreciating even in a down market. With a little luck, one with enough optimism left to think he might get lucky may muse, "Maybe I could parlay a little cash income and a little appreciation into (can I hazard the words?) a double-digit return!" Sure gets my interest!

It appears to have gotten Bill Gates' interest, too. Some years ago, young Bill set out to make his fortune doing what nobody else wanted to do (Windows), and he made a rather good go of it from most accounts. When he took his little enterprise public, the world beat a path to his stock, making him one of the richest men in the world. But even Microsoft's shares got sucked into the bear market whirlpool, their value plunging by two-thirds in a single year (2000) and not making much headway since then. So, probably feeling a little needy in the wake of this diminution, Mr. Gates this year announced the company's first-ever cash dividend, $150 million of it to himself and 8 cents a share to the rest of the fan club. His politics may differ from the current crowd in Washington, D.C., but if the dividend exclusion should pass as proposed, something like $60 million won't have to make the trip to our capital from the other Washington.

Just since MSFT's first-ever dividend announcement, the share price has fallen more than 10%, along with the rest of the market. Maybe, just maybe, a 0.16% yield doesn't offer much support. Then there's the usual business about paying a dividend, meaning that management has no better uses for the cash, so the company's growth rate is headed south and will probably take the P/E ratio south with it. So is there a yield level that does provide price support? And can a company pay a decent dividend and still grow?

As we know, the dividend yield for the S&P 500 is a less-than-thrilling 1.8%, though it must be admitted that this is about 50% more than one receives from a money market fund for hosting his cash reserves these days. If something like half of the companies in the index pay no dividends at all, we could imply that the average cash yield for dividend-paying stocks is more like 3.6%. A recent report from Standard & Poor's indicates that last year the shares not paying dividends fell in price by 30.3%, while those sharing at least some cash with owners declined only 13.5%. Sure, one swallow does not a summer make, and yet ...

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