Few companies found themselves at the epicenter of the lockdown more than Disney. Its theme parks, cinema and ESPN operations were all on hold. So it eliminated its dividend to invest in its streaming business, a unit that has posted outsized subscriber gains. Disney’s stock has taken off as investors see this as a reopening play. “Disney’s business isn’t permanently impaired,” notes David Park, manager of the Nuveen Santa Barbara Dividend Growth Fund.
Park’s fund has a mandate to provide exposure to all sectors, but like many equity income managers he leans toward growth stocks. “It’s a great leading indicator,” he says. “Over the long term, dividend growers outperform.”
The income investors will get, however, depends on when they purchased a stock. When Apple first started paying a dividend, its yield was about 2.0%, Park notes. Today, the stock has appreciated so much that the yield is a paltry 0.6%.
In the sluggish economy of the last two decades, companies that can grow “get a premium,” explains George Patterson, chief investment officer of PGIM’s QMA unit. But “it’s gotten a little crazy. People are paying for earnings five or 10 years out [in the future]. Sometimes people are just paying for a hope and a dream.”
Equity income funds’ focus on growth is understandable in this environment. Many managers like the tech sector because companies have low payout ratios and strong balance sheets. That allows them to raise the dividends at a high single-digit rate or even at a pace in the low double digits. Over an extended time period, dividends that were anemic when the stock was purchased can throw off significant income.
But Patterson, a quant with a Ph.D. in physics, maintains that dividends are a more relevant metric in the value space. Except for utilities, many of these industries, like energy, financial, real estate and industrials, tend to be more cyclical, so dividend sustainability is critical. In 1999, Fortune named GE’s chief executive officer Jack Welch the “manager of the century.” The reasoning was that he appeared to take a cyclical industrial company and transform it into a business with more stable, recurring revenue streams. By 2017, most business analysts realized that was a mirage.
Look Abroad
If a client is really interested in income, they might be advised to look outside the U.S. That comes with its own set of issues.
Most foreign stocks haven’t appreciated the way their American counterparts have, so dividend yields abroad are close to their post-financial crisis levels. “Europe has not been growing as fast as the U.S.,” Patterson notes. And “dividends in emerging markets can be irregular.”
Still, contrarians can find value abroad. “MSCI high-dividend stocks are two standard deviations cheaper than MSCI growth stocks,” says Phil Camporeale, portfolio manager of multi-asset solutions at J.P. Morgan Asset Management. “That relationship has never been cheaper in this century because stay-at-home stocks have done so well.”
Camporeale isn’t fazed by the prospect of rising interest rates. “In 2013 to 2015, high-dividend stocks were expensive,” he says. That was when the malaise of the Great Recession finally lifted, interest rates started to rise and the bond market threw its taper tantrum. Conditions today are very different.
As markets transition to a post-pandemic world, other attributes may become more important. The Darwinian business climate of the last decade could return. At that point, Fuss thinks factors like a company’s balance sheet, market share and degree of industry dominance, coupled with the specific industry’s growth prospects, are likely to decide who the winners are.