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LET US NOT be accused of being pessimists, writes Dan Denning of the ever-optimistic Daily Reckoning Australia.
Take a look at the chart below. It's from a 2002 book called Triumph of the Optimists by Elroy Dimson, Paul Marsh and Mike Stanton of the London Business School. It shows that over the last one hundred years-and importantly, prior to the blow-off phase of the credit bubble in 2000-dividends accounted for half of your total return in US and UK common stocks.
Dividends went out of fashion in the tech boom. To be fair, many companies had no earnings at all from which to draw a dividend.
But as you can see from our second chart, the dividend yield on the S&P 500 is coming off a historic-low in 2000. Even so, the current yield on the S&P is just 2.4%, compared to the 3.5% yield on ten-year Treasury bonds.
The yield on Aussie stocks, for whatever reason, has tended to be higher than US stocks. For example, let's say you read the APRA report on Super Annuation just released and decided your best approach was to passively track the ASX/200, thereby reducing management fees and not trying to beat the market with your own skill. How would you do it?
Well – and we're not recommending it – this is precisely what Exchange Traded Funds are for. The SPDR S&P/ASX 200 Fund tracks the ASX. It's also going to sport a yield near 10%, based on 2009 earnings projections. So for investors interested in "one-decision" stocks, this one decision on the whole market that pays a surprising high yield.
That's not to say there's no risk, or that you couldn't do better picking your own high-yield stocks. And that's only if you thought yield was the way to go. But the idea occurs to us because we believe that with financial assets anyway, the name of the game in the coming years is to find a rate of interest (or yield) that exceeds the inflation rate.
Come to think of it, that's always the name of the game. It's just particularly the case when fears of inflation are more pronounced. And incidentally, this also bears on the housing market. That is, it's possible Aussie house prices will stay the same or even rise nominally, but fall in real terms as the rate of inflation in the rest of the economy far exceeds the rate of price appreciation homes (homes propped up by government aid and reluctant sellers, but not powered higher by new buyers because of rising rates and affordability issues.)
But leaving the housing debate aside, we turn the case for dividends over to none other than Ben Graham in The Intelligent Investor. Chapter two of that must-read is called "The Investor and Inflation" and in it Graham writes the following (emphasis added is our own):
"Inflation, and the fight against it, have been very much in the public's mind in recent years. The shrinkage in the purchasing power of the dollar in the past, and particularly the fear (or hope by speculators) of a serious further decline in the future, have greatly influenced the thinking of Wall Street.
"It is clear that those with a fixed dollar income will suffer when the cost of living advances, and the same applies to a fixed amount of dollar principal. Holders of stocks, on the other hand, have the possibility that a loss of the dollar's purchasing power may be offset by advances in their dividends and the prices of their shares."
It's an intriguing statement, isn't it? We have every reason to believe that deleveraging in the economy is generally bearish for stocks. But Graham is looking past debt-deflation and toward the moment when monetary excess begins driving prices up again (inflation).
In that environment, Graham reckons you hedge against inflation best with common stocks that pay dividends. At least, that's our reading of it. And if it's correct, it means you need a two-stage plan. Stage one is to survive further deleveraging by being more in cash and tangibles than shares. The second-again speaking generally-is to be ready to deploy your cash into assets going up faster than the rate of inflation.
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