Firms that grow their dividends can yield a 'double compounding' effect.
By ANDREW HENDRY
WHILE many investors focus on capital gain as the main source of
return from equities, history shows that long- term returns are enhanced
a lot by the inclusion of dividends. Just take the outcome of a
US$1,000 investment in a portfolio of US equities since the beginning of
1970. The capital alone has increased to US$13,474, but the total
return - which includes dividends and the reinvestment of those
dividends - has risen to US$51,377. The difference is accounted for by
the benefits of compounding - that is to say, the amplifying effect of
reinvestment.
However, this compounding effect can be further enhanced if an
investor were not to focus just on any dividend-paying stock, but on
companies that can grow their dividends, resulting in a "double
compounding" effect. For example, had you invested US$1,000 in the US
stock market 10 years ago, your stake today would be worth US$1,980,
including the reinvestment of dividends. Now if you were fortunate
enough to have put this money not in the broad market, but instead into
an elite group of companies in the US called the "dividend achievers" -
companies which have rewarded shareholders with a rising dividend every
year for 25 years or more - your investment, on the same terms as above,
would have increased to US$2,750. That is a vastly superior return to
simply investing in the index. As a consequence, for this to work to
greatest effect, you need to concentrate your money on companies that
increase their dividends year in, year out - and stick with them for
long periods of time. Consistency and patience are what's required. But
what about high-dividend yields, so often targeted by equity income
strategies? A high yield is not an automatic signal of value. In fact,
it can often be a sign of trouble or limited growth potential. Without
growth in the business, a company cannot sustain long-term dividend
growth. Consequently, the return profile of a telecom or utility sector -
industries which currently yield the most - is typically predictable
but unexciting; very much like a bond, in fact. A 6 per cent yield today
is likely to be 6 per cent in three or five years' time and the
dividend stream will be exposed to the eroding effects of inflation.
Investing in companies that can increase their dividends over time is
much more compelling because dividends and share price performance go
hand in hand. It is better to begin with a lower starting yield compared
to the highest yields in the market if you insist upon growth in the
dividend stream because rising dividends will lead to higher yields in
the future. Yield tomorrow is more interesting than yield today. More
importantly, a rising dividend stream will create pressure for the share
price to perform. The combination of a higher dividend and a higher
share price can be a powerful one for investors.
Take, for example, Nestle - the world's leading food- and-beverage
company with household brands such as Kit Kat and Milo. The Swiss
company has a long history of profitable growth and it is no coincidence
that the dividend track record is equally impressive: Nestle has raised
its dividend every year for 16 consecutive years with an average annual
growth rate of 13 per cent. Back in 1996 at the beginning of this
sequence, the shares were yielding a paltry 2.4 per cent - too low to be
considered by many dividend investors. However, the dividend has
increased more than six-fold since then. So the yield at the outset,
with the benefit of perfect hindsight, was actually more than 15 per
cent. Not surprisingly, the strong growth in the dividend stream has led
to significant capital appreciation and the share price has quadrupled
during that time. Looking at the total return, the investor has been
rewarded with a six-fold increase in his investment.
財爺網誌|陳茂波:市況改善利企業上市 引進辦下月公布引入十多間重點企業 – 香港經濟日報 – TOPick – 新聞
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