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There’s something to be said for the reliability and stability of regular dividends—those quarterly payments that allow profitable companies to reward loyal shareholders. 

While stock prices can often be volatile, old-school dividend payments can provide a steady stream of income. And, when dividends are re-invested, the potential rewards can be compounded.

The relative importance of dividends to overall returns has waxed and waned through the years. In the 1970s, dividends accounted for 73% of the total returns of the S&P 500 Index.1 In the years between 2010 and 2020, dividends accounted for only 17% (see FIGURE 1). Since then, as overall returns have fallen off, dividends as a percentage of total returns have been slowly making a comeback.

 

FIGURE 1

Dividends' Contribution to Total Return Varies By Decade

As of 12/31/22. Past performance does not guarantee future results. Indices are unmanaged and not available for direct investment. *Total return for the S&P 500 Index was negative for the 2000s. Dividends provided a 1.8% annualized return over the decade. For illustrative purposes only. Data Sources: Morningstar and Hartford Funds, 3/23.

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.

Talk to your financial professional about the benefits of incorporating dividend-paying stocks into your portfolio.

 

1 S&P 500 Index is a market capitalization-weighted price index composed of 500 widely held common stocks. Indices are unmanaged and not available for direct investment.

2 Past performance does not guarantee future results. Indices are unmanaged and not available for direct investment. The second-quintile stocks outperformed the S&P 500 Index eight out of the 10 time periods (1930 to 2022), or 78% of the time, while first- and third-quintile stocks tied for second, beating the Index 67% of the time. Fourth- and fifth-quintile stocks lagged behind by a significant margin. Sources: Wellington Management and Hartford Funds, 12/22.

3 Dividend policies used in the study are for stocks in the S&P 500 Index. Sources: Ned Davis Research and Hartford Funds, 12/22.

Important Risks: Investing involves risk, including the possible loss of principal. • For dividend-paying stocks, dividends are not guaranteed and may decrease without notice. Fixed income security risks include credit, liquidity, call, duration, and interest-rate risk. As interest rates rise, bond prices generally fall.

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