Where do you find income in a low interest rate world? Dividend-paying stocks is one place to look.
In today’s episode we discuss ramping up your income by owning dividend-paying stocks. And shockingly, many stocks pay higher dividends than 10-year U.S. Government securities.
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It’s hard to find places to get a decent return on your money. Around the globe, there is now $13 trillion of negative-yielding government debt, according to Bank of America Merrill Lynch.
Even in Italy, a country with massive banking problems, more than $1.5 trillion in government debt has a negative interest rate.
In an earlier blog post, we discussed the problems caused by negative interest rates. Yet, since that blog post came out just two months ago, we’ve added another $3 trillion to the negative-yielding pile.
Fortunately, there are other ways besides government securities to get a return on your invested money. And today we’ll explore one of them–owning dividend-paying stocks.
Five Insights on Dividend-Paying Stocks
1. A broad-based basket of U.S. stocks pays a dividend of approximately 2.1% right now.
While the 10-year U.S. government note pays about 1.5% interest as of this writing, a basket of 500 of the largest U.S. stocks yields just over 2%. Now, there is a difference in risk between these two types of securities. The government note is generally considered very safe and is backed by the full faith and credit of the United States. When you own a stock that pays a dividend, the stock price can go up or down and the dividend can be raised or lowered by the company.
2. One goal of investing is to preserve your purchasing power over time.
The goal of somebody with a 30-year retirement is to essentially preserve their purchasing power so it’s not eaten away by inflation. Preserving that is increasingly important because people are living longer. Traditional bonds and CDs pay fixed rates of interest that don’t necessarily keep up with inflation. Dividend-paying stocks, on the other hand, have historically shown some ability to increase over time, which helps protect your assets against the ravages of inflation.
3. Dividends have historically grown faster than inflation.
In 1980, the S&P 500, a broad-based index of 500 large U.S. stocks, paid about $6 in dividends. In 2015, the index paid over $43 in dividends, according to the Stern School at New York University. In other words, if you owned 1 share of the index over that period of time, your dividends would have grown by a factor of 7. By contrast, inflation grew over that period by a factor of about 3. Although past performance is no guarantee of future results and you cannot invest directly in an index, dividends have historically been a good hedge against inflation.
4. In addition to dividend income, stocks may also add to your wealth through price appreciation.
Using the same example as above, the price of the S&P 500 index rose from about 115 in mid-1980 to about 2100 today. That’s about an 18-fold increase. So, combine the dividend increase with the price appreciation and you have a pretty nice return that significantly outpaces inflation over that period. Again, past performance is no guarantee of future results.
5. You can take dividends as income, or, you can reinvest your dividends and buy more stocks.
If you need the income, you can simply get a check every month or quarter from the dividends on your investments. On the other hand, you can reinvest your dividends by taking that money and having it automatically buy more stocks. Historically, reinvesting your dividends on the S&P 500 index has accounted for a substantial portion of the total return of the index. Reinvesting your dividends is like an automatic savings program. If you don’t need the income, it’s often a good idea to do this.
Bill Keen on dividend-paying stocks…
Don’t just look at what pays the highest dividend. You also have to judge whether you think that dividend is sustainable.
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Bill Keen is the founder and CEO of Keen Wealth Advisors, an independent Registered Investment Adviser serving affluent clients preparing for retirement and the host of the Keen On Retirement podcast. Bill brings more than 20 years of financial services experience and holds the CHARTERED RETIREMENT PLANNING COUNSELOR designation. Bill created Keen Wealth Advisors to build one of the country’s most personal and trusted wealth and retirement advisory firms.