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John Heinzl Knows Dividends.


Individual Investors would be wise to read John Heinzl when he writes about dividends.

A dividend strategy, simplifies investing, in a tax efficient manner, for most Individual Investors. So why don’t Individuals have dividends as the core, at least, if not their entire, non-RRSP portfolio strategy?

Because the headlines shout out the robust growth of China or the amazing Commodities run or the Loonie.

Dividends seem relatively boring.

Oh?

A timeless BCA Research study indicated that, since 1973, Canadian dividends accounted for over 60% of the total return of Canadian stocks. (Total return is capital gain or price change plus dividends). So dividends contribute double what capital gains contribute to total return.

Hardy dull.

The U.S.A. is similar.

Source: J.P. Morgan

 
Individual Investors shouldn’t underestimate the value of dividends for other reasons too. A Kathleen Fuller/ Michael Goldstein study showed that dividends matter even more in declining (or sideways) markets. Not only do dividend paying stocks outperform non-dividend paying stocks, they outperform by over 1% more ‘per month’ in declining markets than in advancing markets. AND dividend-paying stocks outperform with less risk. The investment world’s Holy Grail.

A classic Northern Trust Global Advisors (NTGA) study further shows that, long-term, the volatility of dividend-only returns was a fraction of the price-only returns. This makes sense. Warren Buffet has said that the value of a business is equal to its future cash flow and, the more certain the cash flow, the more the business is worth. It’s the certainty and security of the cash flow from dividends that tends to moderate volatility somewhat and therefore provide some stability to returns. A regular dividend payment provides a cushion against stock market down drafts.

For Canadian investors, the dividend tax credit means that investors pay a lower tax rate on Canadian dividends than on other sources of income like salary or interest. For 2011, in B.C. the top tax rate on dividends is about 24%. (Interest income is taxed at about 44%). Skewing a portion of your non-RRSP portfolio toward dividends is a tax savvy move. As a rule of thumb, $10 of interest income equals the same, after tax, as $7 of Canadian dividend income. (Note: ‘Canadian’ dividends. Foreign dividends don’t qualify for the dividend tax credit).

Individual investors should forget about trying to assess which dividend stock to buy (and which to not buy). Few of us have the resources need to make an intelligent selection. Even the pro’s have difficulty. Today, rather, Individual investors don’t have to bet on an individual dividend paying stocks. They can simply buy a Dividend Exchange Traded Fund (ETF) for diversification. Individuals don’t even have to choose between XDV or CDZ. Buy a bit of each for diversification.

(Don’t take it from me … read John Heinzl).

So dividends contribute more to long-term performance, dividend paying stocks out-perform non-dividend stocks, dividends are especially important in down markets, dividend paying stocks are less volatile AND are more tax efficient.

My kind of boring.

Next time?

Inattentional Blindness

Doug Cronk CFA is Manager, Investments for a Canadian Pension Plan

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2 Comments Post a comment
  1. Hi, Ed.
    So sorry i missed your comment …
    One of the things that the iShares.ca (Canadian) ETF provider did was change to monthly from quarterly payout … making the live of the reinvestor more complicated and with more spare change lying aroung. But reinvesting part is better than none.
    I concur on individual stock volatility. If you want my take on individual stock volatility, do a search on CIBC (4 specific blog posts) and let me know what you think.
    Thanks.

    Like

    May 10, 2011
  2. Ed Unneland #

    I have linked to this post on my Facebook page. Jeremy Siegel in the U. S. context has done a great deal of work on dividend-paying stocks. I like how brokerages will allow you to reinvest dividends for the more liquid ETFs, so doing that for your dividend-focused funds makes for very nice compounding. I have been involved in finance since ’86, mostly in an operational capacity. Originally with a major wirehouse broker, now I work on the buy-side. One reason I use ETFs is that I found single stocks simply had _way_ too much volatility for me to effectively manage while I had a full-time job. It has taken me a long time, but I am now comfortable with PID, VIG, FVD, & DVY. The new iShares fund, HDV, seems very interesting in that it incorporates a “Distance to Default” screen.

    One thing that I swore from my time at the wirehouse is never to buy anything you can’t easily sell (from when limited partnerships were all the rage). Wellington said that the most important thing militarily is to have a door, to always have a way to get off the battlefield. Much the same in investing, it seems to me. I instinctively distrust any investment where I don’t have a price that is immediately reported.

    Like

    May 3, 2011

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