Dwindling Dividends

There is no shortage of online articles promising great success for retirees who buy into stocks and live off the dividends. However, there is often little, or no, historical information provided.

Consider this – in 1873, a basket of large-cap stocks (like the S&P 500) paid a dividend yield of 7.5%. Receiving $7.5 back in cash for each $100 invested is not too shabby. The dividend rate peaked during1917 at 10.2%, and it has generally hovered between 3.5% and 6% since then. That is, until around 1990 when dividend yields fell to the 2% range. Since then, with little fanfare, dividend yields dropped to a historic low of 1.3% today.

In general, company dividend distributions have become stingier as a percentage of stock prices. This is due, in part, to several companies either re-investing company profits or buying back shares – both with the goal of increasing the value of their stock price. Of course, rising stock prices also reduce the dividend yield.

More recently, reinvesting dividends have become a more tax-efficient strategy to many shareholders. Until 2003, dividends were taxed as ordinary income, while capital gains, if the position was held for more than a year, was taxed at lower capital gains rates. But today, qualified dividends (which is most of them) are taxed at either 0%, 15%, or 20% rate depending on the level of income.

Buying income is more expensive in both the stock and bond markets today. Today, many financial planners recommend, instead of trying to live off of income generated from dividends or bonds, investors use a total return concept which takes a percent of total portfolio value which, of course, consists of both income and capital gains.