Corporate caution keeps dividends in check

Liseth Galvis-Corfe - 06 December 2018

While a recent Janus Henderson report on global dividends proclaimed that “growing profits and strong cash flow means dividends are well supported”, the prevalence of discretionary share buybacks – especially in the US – has undermined the connection between corporate performance and dividends. This has allowed a gap to open between US Treasury yields and the dividend yield on the S&P500. An over-reliance on buybacks and the oversized contributions of technology and financials to global dividends suggests that investor payouts are waning.  
Janus Henderson’s Q3 global dividend report focuses on the underlying dividend growth (a measure that removes volatility caused by factors such as exchange rates, one-off special dividends and the impact of companies changing their dividend calendar. It shows that dividend growth of the United States (7.3 per cent) lagged the global average (9.2 per cent) in Q3 2018 (figure 1). This is surprising given the strong growth of the S&P 500 in recent years. After the passing of the Tax and Jobs Act (December 2017), when the US government made earnings repatriations mandatory, it was expected that companies would rush to increase dividends.  While the total income returned to shareholders reached a record high, buybacks displaced special dividends, which also decreased in Europe and Asia Pacific. 

Corporate reluctance to increase dividends is prudent in the light of the experience of the global financial crisis: were economic conditions to change suddenly, dividends might need to be cut or cancelled. One-off share repurchases look more attractive. Buybacks were introduced in the US in the 1990s and have appeared to lower the S&P 500 dividend yield. Between January 1980 and December 1999, the average of the dividend yield was 3.3 per cent; in the period January 2000-Nov 2018, the average was 1.89 per cent. US companies have also favoured buybacks because of their more favourable tax treatment: while investors must pay taxes on dividends in the year they receive them they can defer paying taxes on their share gains until they sell the stock.

The report also highlights that dividends from banks and other financials made up a third of the Q3 global dividend total (figure 2). The earnings of financials tend to be cyclical, and if a downturn is thought to be imminent, dividend growth would be in the firing line. Figure 2 also shows that in Q3, global payouts fell in telecommunications, utilities and industrials, year on year. 

Robust dividend growth offers scant compensation to US equity investors given the yawning gap between dividend yields and Treasury bond yields (figure 3). Historically, excess bond yields have predicted poor forward returns for stocks. However, if the negative bond-equity correlation is evaporating, investors will require an even higher dividend yield as bond yields rise. 

Figure 1

Data source: Janus Henderson

Figure 2

Source: Janus Henderson

Figure 3

Data source: Thomson Reuters Datastream and S&P

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