Dividends and Growth—the Two Go
Hand in Hand in this Business Cycle

The power of a few large-cap companies to sway stock market sentiment is great. As recent corporate events illustrate, not only does good earnings news move the market, but, increasingly, dividend news is moving share prices. This is big and it’s a sign of the new age of austerity among corporations and individual investors.

Dividend investing is a growth industry because of demographics, interest rates that are historically low, and the fact that a lot of big corporations have excess cash to play with. In fact, the cash hoard among many large, brand-name companies is growing and investors can expect much more news related to increased dividends and share buybacks.

Corporations and individuals with money have the same problem. There are very few places to invest that offer a decent return. Investors seeking income can’t find the kind of inflation-adjusted returns in virtually any other capital market other than equities. Corporations with excess cash can’t invest that money and make a decent return with interest rates so low. Accordingly, they’re returning the cash to shareholders in the form of share buybacks and dividends.

Frankly, it’s a good time to be a dividend investor, especially if you expect the economy to grow modestly over the coming years. While I’m not an advocate for taking on new positions in the stock market at this time, the performance of a number of my benchmark companies has been tremendous in recent history—and most of these companies pay shareholders a respectable dividend (DD, CAT, UTX, MMM, CMI, ADP, and PEP, for example.) Just like in the fashion industry, trends change. Over the next several years, I think that large-cap, higher-dividend-paying stocks are going to outperform. I know that history suggests that small-cap companies outperform coming out of a recession, but not this time. The business cycle this time around favors large-cap, international companies with excess cash and pricing power. Domestic small-caps won’t be able to compete.

I would even go so far as to advocate investing in those dividend-paying large-caps that have already experienced major upward moves in their share prices. In a way, it’s kind of like momentum investing in dividend-paying stocks. I’d rather own a proven winner over a large-cap, dividend-paying company whose stock price is in the doldrums. I like value in growing small-cap companies, but I like a proven track record in large-cap investing. Value here is less important in this business cycle.

I know a lot of investors who spend a lot of time looking for income-generating securities. It’s going to be a growth industry for investment banks. My grandmother never owned a stock her entire life and only bought CDs to sock away some money. She liked the security. But with interest rates so low (even if they go up later in the year), she might think twice nowadays with a company like PepsiCo yielding around three percent and a long-term track record of solid capital appreciation.