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Yield
Up Ahead?
Yield Up Ahead?...Up ahead?
Are you kidding us? At least in terms of current numbers,
we're seeing individual equity yields we have not seen in decades
right now. On face value, these yields are nothing short of
mouthwatering. But, as always, and especially in the current
environment, we need to think through visceral reactions to
immediate perceptions. Time to talk about yield for a few
minutes. First, as we have been highlighting in our early
year themes and considerations discussions for a number of years
now, we continue to believe yield will be an important macro
equity market theme ahead based simply on demographics.
Maybe more so now given events of the current year. We
remain convinced the baby boom generation as a whole simply has
not saved for retirement in any meaningful fashion, relying quite
heavily on residential real estate values and equity market
"savings", as opposed to wage based savings, for net
worth acceleration. As a very rough estimate, we have to
believe close to $8+ trillion in perceived household wealth has
been lost over the last few years. The illusion of
"saving" that has been real estate and equity price
inflation has been shattered. But in no way does that
mitigate the forward reality income need as the boomers walk every
more swiftly into theoretical retirement years. Amid the
terror, panic, paranoia and hysteria of the moment in the
financial markets, the need for yield has, if anything, grown ever
more pressing for the boomer crowd. This "theme",
if you will, is not about to abate any time soon. So, it’s just
a wonderful thing that so many stocks now sport quite the
attractive dividend yields, right?
Secondly, from a macro equity valuation perspective, it's time
for a quick check in on historical equity market dividend yield
context as a bit of a valuation marker in and of itself.
With the large equity sell off this year, where are we set against
historical precedent? Have a look.
In the chart above we're using Bob Schiller historical data
back to the turn of the last century. As you can see, we've
marked the average S&P dividend yield since both 1900 and
1950. As of now, we're essentially looking at an S&P
yield that has hit the average experienced over the last six
decades. Why divide the world into 1950 to date and 1990 to
date periods? As you can see in the chart, the first half of
the last century saw equity dividend yields spend the bulk of
their time above 4%. There was clearly a different mind set
toward what investors expected from equities, and dividends were a
big component of that prior era mindset. That changed with
the big equity bull market period of the 1950's, and perhaps
peaked in generational fashion (now clear in hindsight) with
aggregate equity market yields approaching 1% at the dawn of the
current century. Although investors today have little to no
experience with this concept, there were many periods in the
pre-1950's world where aggregate equity yields consistently
exceeded like company corporate bond yields. Equities were
indeed thought riskier than bonds, being ranked well below senior
debt in terms of the corporate capital structure as this applies
to potential liquidation. Implicitly, investors demanded a
meaningful risk premium in equities in the form of dividends to be
subordinated to senior debt claims on a company's assets.
Wow, what a novel idea, right?
Again, we saw the beginning of the secular change in thinking
regarding equity risk as yields "demanded" by investors
dropped meaningfully in the 1950's to the present, interrupted
only by the 1970's bear market interlude. But as we look
back across time, we need to remember that from 1950 to present,
we have generally ridden a macro bull market equity wave of price
appreciation point to point. The 1966-1982 period was indeed
one big sideways correction for equities, and it's during that
period where yields trended higher. Otherwise equities in
general have enjoyed an upward nominal dollar price trend as a
very general comment. Investors "learned" over the
last half-century to rely more on price appreciation from equities
than dividend yield in attaining satisfactory total return.
Punctuated, of course, by the stock buyback phenomenon of the last
decade and one half.
But as we look ahead, we need to at least be open to potential
perceptual change. Let's face it, as of the Thursday prior
to the Thanksgiving week, the S&P on a price only basis was
down 49.1% YTD. In essence, the S&P had lost half its
total recorded history value in a little over one year.
Enough to spark change in forward investor "demands"
from equities? Enough to refocus investor attention from
primarily price only return to a combination of yield and price
return? Meaningful change that is more secular than not
takes time, so we have no current certainty in terms of answering
that question regarding the character of forward investor
attitudes toward yield, and how that potential change would be
discounted in equity prices. We just thought it important to
step back and have a multi-generational look at the shifting
character of the equity market and investor perceptions.
Personally, in the current period we need to remind ourselves at
all points in time to remain open to almost any outcome. The only
thing we really know at the moment is that no one knows what lies
ahead in this special environment. Comforting, right?
An observation from the chart above that we do believe has
implications for the current market is the history of nominal
dollar S&P dividends. As you look back over the period
of the 1910's through 1940's, there were a number of periods where
equity market dividend yield spiked very significantly. We
all know that was a result of a decline in equity prices as
opposed to a massive increase in company dividends. But the
important issue is that post these clear and significant spikes,
aggregate equity yields dropped like a rock. Was the
subsequent drop in S&P dividend yield a result of massive
equity market rallies? Far from it. It resulted from
huge drops in nominal dollar S&P dividends themselves.
Companies either went bankrupt or cut dividends very meaningfully.
What we've done in the following graph is to chart nominal dollar
S&P dividends over the 1900-1950 period, and the 1950 to
present period. Two different time frames representing two
different "eras" in investor thinking and equity price
discounting regarding dividends and yield, as we explained
above. In the top clip you can see the cyclical contractions
in actual nominal dollar corporate dividends that occurred with
some regularity during the first half of the last century.
No wonder investors demanded meaningful dividend yields as they
priced equities during that period. Not only were actual
equity prices volatile, so too was the stream of actual cash
received by investors in the form of dividends.
Conversely, as we look at the bottom clip of the chart above,
volatility in nominal dollar corporate dividends has virtually
been absent over the last half century. We saw a temporary
decline in actual cash dividends in the latter part of the last
decade, but it was a blip on the proverbial screen compared to
prior early 20th century experience of 30-50% declines.
So, why have we dragged you through this and how is this
important to our current circumstances? Sorry to beat the
proverbial dead horse one more time, but we believe we again need
to put prior half century equity market dividend experience in
context set against the prior half century credit cycle dynamics
in the US. In a recent discussion on our site we reviewed
the very strong historical directional correlation between nominal
dollar US corporate profits and US credit market debt relative to
GDP. Point being that we are convinced credit cycle dynamics
of the last three to four decades strongly influenced and
supported corporate earnings growth in a big way. A chart of
exactly what we are talking about follows.
If indeed our supposition regarding the linkage between the
credit cycle and nominal dollar corporate earnings acceleration is
correct, then by extension can we suggest that US credit cycle
dynamics also positively influenced the ability of corporations to
support dividend payments over the prior three-plus decades?
We think that's more than a fair statement. As you'd guess,
the following chart chronicles both S&P nominal dollar
dividends set against the same credit market debt relative to GDP
character since 1950. Directionally correlated, as is the
trend in corporate profits? You bet.
Can we now suggest that we need to at least be open to the idea
that change in US credit cycle dynamics ahead may indeed portend
change in the character of US corporate dividends to come?
And as the credit cycle continues to reconcile, could we possibly
be looking at a future decline in aggregate S&P dividends
paid? Again, we think this is a fair line of reasoning and
deserves both consideration and monitoring in forward
decision-making. As we look back over the last year or so,
the poster child for dividend change so far has been the financial
sector. Either massive cuts or outright dividend elimination
has been the hallmark of the sector, along with imploding earnings
and stock prices. All as a result of meaningful change in
macro credit cycle dynamics? Sure seems that way. In late summer we watched BofA CEO Ken
Lewis proclaim on the tape that he saw no reason for a dividend
cut. About six weeks later, BAC cut their dividend in
half. We need to be open to any outcome in the current
environment. It’s as simple as that.
Last item of importance. We have been suggesting in our
recent discussions that we need to be very aware of the
transmission of financial sector price declines (both bonds and
stocks) and continuing credit market contraction into the real
economy as we move ahead. It's already playing out in terms
of contracting consumption and employment. We believe this
accelerates in 2009. As this relates to the topics of equity
dividends, it may have been the financial sector cutting dividends
that was the highlight of 2008, but what is to come in 2009?
As the real economy is hit with the full brunt of credit market
and household balance sheet contraction fallout in 2009, will we
see dividend cuts broaden well beyond the financial sector as a
result of meaningful earnings disappointments? And if so,
what will be the magnitude of the dividend cuts to come? Although
we have no absolute certainty, we believe the case for this
phenomenon is building. We'll look at some real world
numbers in the table below that "tell us" to be very
aware of this potential. Have a look. Admittedly this
is an incredibly small sample, but it's the concept we're after
here. Also, the following numbers are as of month-end, benefited
by a very meaningful prior one week rise in price.
| Company |
'09
Est. Earnings |
Dividend |
Current
Yield |
Payout
Ratio |
| |
| Dow
Chemical |
$2.45 |
$1.68 |
9.1% |
68.5% |
| GE |
1.77 |
1.24 |
8.4 |
70.1 |
| Bristol
Myers |
2.01 |
1.24 |
6.0 |
61.6 |
| ATT |
2.96 |
1.60 |
5.6 |
54.0 |
| Verizon |
2.74 |
1.84 |
5.6 |
67.2 |
| Pfizer |
2.49 |
1.28 |
7.8 |
51.4 |
| Duke
Energy |
1.30 |
0.92 |
5.9 |
70.7 |
In terms of "real economy", GE and Dow pretty much
fit the bill, no? In their wildest dreams, we have to
believe that most investors of the moment never would have
imagined an 8+% GE dividend yield. But here we are. On
face value, anywhere near 8+% dividend yields are quite the tempting
proposition...until we get to the last column in the table above
that is the payout ratio. At the moment, current analyst
estimates for the S&P in 2009 center around $90, a 30+%
increase over 2008. We believe this is a wildly unrealistic
number for 2009, but that’s our personal opinion. Also, we
have been harping on the linkage between credit cycle dynamics and
both corporate earnings and dividends. So as we look at very
high dividend payout ratios for companies such as GE and Dow, we
have to ask ourselves as credit cycle and financial sector price
deterioration dynamics "transmit" into the real economy
next year, will these companies really be able to achieve earnings
estimates currently on the table by the analyst community?
For if not, by default the payout ratios we see above will
increase. At what point, or payout ratio level, does a GE or
a Dow need to make a hard decision about cash dividend
payments? Especially if we remember that these folks need a
certain amount of at least maintenance cap-x. Although we
have absolutely no idea what will happen ahead, can you imagine
perceptual market reaction and fallout if a supposed blue chip
like GE cut their dividend? You get the point.
So in summation, a rising S&P dividend yield is telling us
something about equity valuations. As we noted, we now rest
at a yield level that is the average for the last 60 years, a
level we have not seen in close to two decades. We have
discussed the case for the "stocks are cheap" argument
based on estimated earnings on our site recently. It's the
earnings assumption that's the problem. In like manner, it
appears that stocks are reasonably priced based on the dividend
yield experience of the last six decades. But is the
assumption of a static or growing cash dividend stream for the
S&P in aggregate also a problematic assumption? Could we
be embarking on a wider sector display of dividend cuts in
2009? We believe it's a very real possibility. So, we
need to incorporate this into our thinking about macro valuations
and company specific investment possibilities. We need to
look well beyond perceptual dividend yields of the moment in terms
of individual investments. The siren song of very high
single digit or low double-digit yields may turn into an air raid
siren of danger before 2009 has ended. Do not blindly accept
dividend yields of the moment as being sacrosanct. What has
transpired so far in 2008 has already taught us that nothing is
sacrosanct. Nothing. We continue to believe the macro
investment theme of yield is and will be important ahead.
We're just walking in a more dangerous minefield near term.
When it comes to yield oriented equities, just remember that quite
simply, if a yield appears too good to be true, it probably
is.
DC
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发表于 2008-12-15 10:07 PM
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