As the European crisis deepens, investors are looking for a less risky way to earn income on their money. Many have fled to treasury bonds in the wake of international uncertainty, but the yield on those bonds has decreased markedly in the wake of the Federal Reserve’s open market operations.
Income investments are hard to come by in the current macroeconomic climate. The idea that equities are dead was reexamined by many in the financial press. The idea, originally poised in 1979, is based on the short term under performance of the asset group in tough conditions.
For income investors, that is far from true. A cursory look at some of the stocks in the S&P 500 shows that dividend yields are currently outpacing the return on corporate bonds.
Many headlines have been written on the dividend yield of the S&P500 being higher than the 10 year treasury, for the first time (besides a brief period in 2011) since 1958. Many investors have also pointed out to the attractiveness of high dividend paying stocks versus treasuries. However, what about corporate bonds of blue chip stocks versus their dividend yields? We tried to take a look with some bonds that expire in approximately 10 years, using several non-financial Dow Jones stocks.
Starting out with a blue chip company on the historically “correct” path, The Walt Disney Company (NYSE:DIS):
Yields on Disney’s bonds that mature in nine years is around 2.4%, the dividend’s yield is 1.28%.
This is the way the pattern usually holds for blue chip companies. That is changing however, and the discrepancy can be seen by looking at some of the other big companies, and the yields on their bonds and dividends.
Here is The JNJ chart of bond returns from yesterday:
Johnson & Johnson (NYSE:JNJ) have a current dividend yield of around 3.67%, the yield to maturity of bonds expiring in 20021 is1.676.
At&T Inc. (NYSE:T) yields show a similar discrepancy:
Bonds that will mature in 2021 offer a yield of 2.7% to maturity, while the yield on dividends is 4.97%.
A small exception is shown in Walmart bonds:
The yield on bonds maturing in 9 years is 2.304%, while the dividend on the firm’s shares is 2.25%. In this example, the bonds just slightly edged out the dividend yield.
The discrepancy in the asset yields is staggering when compared to the situation just a couple of years ago. Bond yields should be much higher than dividend yields, but that has clearly changed in light of recent strategy coming from the Federal Reserve.
The Fed’s quantitative easing program has lowered the rates on Treasury bills to such an extend it is having a hugely detrimental effect on the bond yields of all considered safe to bring them in line.
For the income investor the results are clear. In search of a “safe” income return, dividends are now king. Safe corporate bonds no longer offer the kind of return to attract investors.
