But, even though the world of near-zero interest rates ended in March 2022 when the US Federal Reserve (Fed) began hiking short-term rates to tame inflation, dividend-paying stocks may still be worth a closer look. Here are three reasons why:
Reason 1: Income and Growth
Potential
Dividends are generally considered a reliable source of yield, and that's even more true during periods in which bonds have struggled to pay investors any kind of meaningful yields—as was the case prior to 2023. But even though fixed-income yields are currently giving dividends a dose of meaningful competition, dividend-paying companies continue to sit on near-record high amounts of cash.
The recent success of cyclical- and value-oriented stocks shows that there’s still plenty of growth potential for undervalued dividend-paying companies with strong balance sheets and deep cash reserves.
Reason 2: Consistency Has Historically Been Rewarded
Recent research shows that companies that offer steady sustainable dividends without going overboard on payouts have provided the best returns over time.
The study, by Wellington Management,2 divided dividend-paying companies into quintiles, then ranked them from highest to lowest level of payouts. The companies that outperformed the S&P 500 Index landed, surprisingly, in the second-highest rather than highest quintile. That’s right: the “high” beat the “highest.”
This counterintuitive result suggests that some companies were making “excessive” dividend payouts and leaving themselves with less money to invest in future growth, while companies with more moderate payouts were re-investing their earnings and still retaining enough flexibility to pay steady dividends for the long term.
Reason 3: Dividend Growth—A Sign of Good Management
In another recent study, Ned Davis Research3 looked at dividends from the vantage point of corporate behavior. The study asked: Since 1972, what kind of company had the highest returns and lowest volatility over time: Companies that grew their dividends? Companies that cut or eliminated them? Companies that stood pat? Or companies that didn’t pay anything at all?
The results showed that companies that grew or initiated a dividend experienced the highest returns relative to other stocks—with significantly less volatility.
The study also noted a strong correlation between corporations that consistently grow their dividends and those with strong fundamentals, solid business plans, and a deep commitment to their shareholders.
Bottom line: Although they’ve gone in and out of favor throughout the years, dividends are once again showing they can still play an important role in providing income and growth potential, especially in today’s volatile environment.
