The outlook for dividends

-- | 13/01/2021

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Holly Black: Welcome to Morningstar. I'm Holly Black. With me is Dan Lefkowitz, he's a strategist at Morningstar in Chicago. Hello.

Dan Lefkowitz: Hello Holly.

Black: So, Dan you've been looking at the outlook for dividends for the year ahead. But before we get into that, it's probably worth looking at dividends in 2020. And it was a bad year, what went wrong?

Lefkowitz: Yeah, if you look at Morningstar index families that track dividend paying stocks around the world, they badly underperformed broad global equity benchmarks. And there were really several factors at play, the pandemic and the related economic downturn hit many dividend related sectors very hard. And then as equities rebounded across the world, that bounce back was really led by technology related businesses that are not so rich in dividends. Companies that were benefiting from the work from home and shop from home trends, and not so much, companies in dividend related industries sort of economically sensitive areas related to consumer or basic materials and energy, financial services.

Black: So, I think something we noticed quite often is dividend payers tend to be in those value stocks or more cyclical industries, and they did struggle. But we saw a value bounce back at the end of the year. So does that mean we're going to see a dividend bounce back?

Lefkowitz: Right, absolutely. So if you look at growth stocks versus value stocks over the course of 2020, the gap between growth and value was the largest since the late 1990s the dotcom, TMT bubble, and dividend payers tend to be on the value side of the market, as I mentioned, in those old economy industries. That was for the overall year, but there was something of a rotation in November. So first, we had the US election, the market interpreted the outcome as relatively benign if not positive, and more importantly you saw promising results on the vaccine front. And so as the market anticipated economic recovery and a return to normal that benefited a lot of economically sensitive sectors of the market, including a lot of dividend payers.

Black: So Dan, let's be brave and put our forecasting hats on. What's your outlook for dividends this year?

Lefkowitz: Yeah, we're positive. It's of course very hard to know what's going to happen in the short term. But we know that over the very long term, dividend paying stocks are good bets, they tend to be solid businesses. We know that a substantial portion of the long-term total return from equity markets actually comes from dividends, reinvested dividends from dividend growth. We know that dividend businesses tend to be solid, more stable in their cash flows. And we know that that commitment that a dividend payer makes to pay out some cash to shareholders on a regular basis, instils discipline and causes corporate management to steer a prudent course. And then we have to talk about yield. So, the yield on our Morningstar Global Dividend Yield Focus Index, for example is well above 4 per cent. That's more than double that of the yield on the broad global equity market. We know that yields on most developed world government bonds are really paltry, interest rates have been cut and are extremely low. We know that there's an ageing demographic in much of the developed world that is looking for income in the equity market. So there's a lot of factors really that should be beneficial to dividend paying stocks going forward.

Black: So are there any areas that you see as particularly well positioned to come back and start paying decent dividends?

Lefkowitz: Yeah, well, it's really critical to be selective when it comes to buying dividend paying stocks and chasing yield, looking for the most yield rich areas of the market can often lead you into troubled areas, and dividend traps, companies that have a nice looking yield, which are ultimately unsustainable. So you have to really screen for dividend durability, sustainability going forward. So we look for well positioned companies that are financially healthy, that can sustain their dividends going forward. So if you look at our global Dividend Yield Focus Index, some of the areas that it's favouring big telecom stocks, for example AT&T is a stalwart name in the index. Some consumer related businesses, so Nestle, Procter & Gamble, Unilever, on the financial side, the Canadian banks screen very well on our dividend sustainability metrics. And then some some technology as well, so Broadcom, Taiwan Semiconductor, Samsung Electronics, and then some pharmaceutical names including some of the businesses that are involved in the vaccines for COVID.

Black: Dan, thank you so much for your time. From Morningstar I'm Holly Black.

This report appeared on 2021 Morningstar Australasia Pty Limited

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