Despite all the challenges of 2022, it was a good year to be a dividend investor.
With the S&P High Yield Dividend Index being about even for the year as I am writing this, dividend investors were once again reminded of the lower risk that typically accompanies owning a portfolio of mature stocks that pay juicy dividends. As our clients and readers of this newsletter are well aware, Ranch Cap’s primary investment strategy centers around dividend investing. Perhaps our dividend bias developed out of the need to create passive income for so many of our retired clients living in one of THE retirement destinations of America. I often wonder if our office was located in New York, and our clients were more institutional or corporate executive types, if we may have been tempted to join the “Trader Nation,” and strayed more towards algorithmic high-frequency trading programs and the like. But thankfully, God’s path led our families to the warm sunshine and beautiful beaches of Sarasota. Although our city may not be as exciting or fast-paced as the big cities, I believe we are happier and less stressed than we would be living elsewhere. The same can be said for a slow and steady dividend investment strategy; it’s not very exciting, but it can be very fulfilling.
Dividend stocks do have their advantages. They undoubtedly have upside potential when overall equity markets are trending higher. You may not see the types of returns a technology growth stock can achieve when the economy is running on all cylinders. It may even feel like a loss if your dividend stocks only made 10% when technology stocks would make 30% in a year. But the moment the economy begins to slow again and the music begins to fade... your old sleepy dividend stock becomes your trusted ally once again. As many tech darlings fell 25-50% this year, dividend stocks have reliably done their job by paying you while you wait and holding their prices steady through difficult times.
Concerned about inflation? Social Security is not the only one giving you a raise. Dividend stocks continued to grow their per-share payouts in 2022 to their shareholders. For example, our Ranch Cap dividend model, comprised of 30-35 stocks paying a roughly 4% dividend yield, had a payout increase of around 6% over the last 12 months. Not quite enough to match the record-high inflation in 2022, but every little bit helps these days, especially with Christmas right around the corner. The good news is that many dividend stocks increase their payouts annually from 5-10%, which is well above the 3% historical inflation rate.
Concerned about higher taxes? Most dividend stocks receive favorable tax treatments when you report the dividend income on your tax return. Currently, qualified dividends (which are most) are taxed at 20% for the highest tax brackets and can be taxed at 15% or even 0% depending on your income and tax status. See the income brackets here: Dividend Tax Rate: What It Is, How to Calculate It. Most investors will realize significant tax savings for incorporating stock dividends into their cash flow plans.
Concerned about a recession? Let’s face the facts: Recessions are part of a normal business cycle. Although you can’t avoid recessions, you can prepare your money to endure one by ensuring you still get paid cash while you wait for it to be over. Read my last month’s newsletter article if you missed it - 5 Strategies for Handling Recessions. Cashflow is the oxygen needed for any business or family to survive tough times. Dividends can ensure your bank accounts remain flush to help pay ongoing expenses. And since they do not depend on the price of the stock being up or down, it can be a reliable source of cash. One note of caution is that a company can cut, suspend, or eliminate its dividend, which is why a diversified portfolio of dividend stocks is recommended.
In summary, dividends have significantly contributed to stock market returns over the last century. It may not always be sexy, but it has worked quite well as an investment strategy. If our team can be of service, please reach out for further guidance.
Gregg Pacitti CFP®