Cash Management

The Resurgence of Dividends

Growth could be even greater; the spread between earnings yield and dividend yield has widened considerably since 2002.
Stephen TaubMarch 2, 2005

By most measures, President Bush’s May 2003 decision to cut the tax rate on dividends to 15 percent — the same level as for long-term capital gains — has set off an explosion in these payouts among large companies.

Since December 2002, when tax reforms were first proposed, the dollar value of the S&P 500 dividend has increased at a 10 percent average annual rate, compared with the 10-year historical average growth rate of 4 percent, according to a new report from Thomson Financial.

In little more than two years, 248 companies in the index boosted their dividends at a mean rate of 103 percent and a median rate of 28 percent. What’s more, 29 companies that weren’t paying dividends (out of 150 total) initiated dividends since that December. Most are in the information technology or consumer discretionary sectors, but during the past two years, the percent of companies issuing dividends has increased for all S&P 500 sectors.

And although dividend growth is ultimately constrained by economic growth, Thomson’s report still maintains that based on market fundamentals, the S&P 500 dividend growth rate for the near term should easily exceed the 4 percent historical average.

Yet for all of these accomplishments, dividend growth could be much greater. According to the Thomson report, the S&P 500 increase in dividends has not kept pace with the increase in earnings; since 2002, the spread between earnings yield and dividend yield has widened considerably.

In fact, the retention ratio for the S&P 500 is at a 10-year peak, topping even the levels seen in the spring of 2000. At the peak of the tech/Internet bubble, the payout ratio for the S&P 500 dipped below 30 percent as investors were more content to reap gains from stock appreciation.

Based on historical data, Thomson expects the income payout ratio to amount to 53 percent in 2005 and the average dividend yield to remain at 1.7 percent. “Now that tax reforms have eliminated the inequitable taxation of dividend income,” notes the report, “it is likely that the S&P 500’s percent of capital distributed to shareholders through dividends should continue to increase.”