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The Power of Dividends and Dividend Growth Investing

Is dividend growth investing a reliable investment strategy to generate consistent stock market returns over the long run?

History suggests dividends have always been crucial in the investment world. Dividends have played a significant role in the overall S&P 500 Index's total return picture. Dividends' contribution to the total return of the S&P 500 Index has varied substantially over the past eight decades. During the 1940s, the dividend contribution to the total SPX return was 67%. In the 1950s it was 30%, the 1960s witnessed 44%, the 1970s (73%), the 1980s (28%), the 1990s (16%), the 2000s (negative total returns), the 2010s (17%). From the 1930s to the present, S&P 500 dividends accounted for around 42% of the total return for the SPX index.

During the 1940s, 1960s, and 1970s dividends played a larger role contributing more to the overall SPX total returns when the total SPX returns for the decade averaged less than 10%. On the other hand, dividends played a smaller role during the 1950s, 1980s, and 1990s when the SPX annual total returns for the decade were into the double digits. It is also interesting that during the extended bear market of 2000-2009 the SPX produced negative returns. However, dividends provided a steady income stream to help minimize the losses.

In today's low-interest-rate environment, many investors continue to seek out income investments. However, there are numerous value traps, and investing solely on high dividend yields have not been effective. Some believe the best way to measure whether a company will be able to pay a consistent dividend and even grow its annual dividends is through the payout ratio. History has shown that companies that have initiated or raise their dividends on a long-term basis have experienced higher returns with less volatility in contrast to companies that cut or eliminate dividends.

Dividend growth investing may be a key component to long-term outperformance as companies that can consistently grow their dividends have a stronger balance sheet, solid management, stellar business plan, and are more committed to their shareholders. In recent years investors have focused on dividend growth investing, favoring stocks of companies that have a solid track record (blue-chip names) but also have a consistent record of increasing dividend payout on an annual basis. After all, stocks that can raise their dividend payouts each year imply that these stocks are growing their bottom lines and have steady cash flows providing the ideal scenario for generating consistent long-term capital gains.

In summary, dividend growth investing has outperformed the stock market (SPX) and other investment styles, producing higher risk-adjusted returns over time. The proliferation of many dividend growth stock indexes, mutual funds, and ETFs is understandable as investors continue to search for growth and income in a historically low-interest-rate environment. Some believe dividend growth investing is an ideal investment strategy for many as it allows investors to grow their income, and at the same time, protect their purchasing power in an increasingly volatile market environment.

Although there are numerous dividend and dividend growth investment vehicles, the following are some of the more popular and active ETFs: Vanguard Dividend Appreciation ETF (VIG), WisdomTree US Dividend Growth Fund (DGRW), and SPDR S&P Dividend ETF (SDY), and ProShares S&P 500 Dividend Aristocrats ETF (NOBL). For instance, NOBL tracks an equal-weighted index of S&P 500 constituents that have increased dividend payouts annually for at least 25-years. A stock that can increase its dividend payout for 25 years or more implies that this is a profitable, solid, growth-oriented, and well-managed company. Isn't this the reason why we invest in stocks? The stocks that offer the longest duration of increasing their dividends within the S&P 500 Dividend Aristocrats are MMM (57 consecutive years of rising dividends), KO (57 years), CL (57), DOV (57), EMR (57), GPC (57), JNJ (57), PG (57), SWK (52 years), and HRL (51 years).

Source: Courtesy of

Source: Courtesy of

Source: Courtesy of

Source: Courtesy of

Source: Courtesy of

Source: Courtesy of

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