In the daily grind of trying to predict which stocks will gain or lose ground, it’s easy to forget that a rising stock price isn’t the only way to benefit from owning equities. “Dividends, and their reinvestment, represent a major portion of a stock investor’s total return over time,” explains Mebane Faber in his new book Shareholder Yield: A Better Approach to Dividend Investing. An American investor with money in the market between 1871 and 2011 would have gotten 8.83% returns including reinvested dividends, but just 4.13% without them, and Faber wants to give people a framework to think about dividends when comparing stocks.
Dividends correlation with higher returns
It’s widely accepted that higher dividends correlate with higher returns, and Faber walks the reader through the existing literature, but he also acknowledges that the reality is more complicated than just putting money down on companies that pay the most back to shareholders. Dividend investing can be a risky strategy because companies that pay out too much this year might not have enough cash on hand next year, and looking at the history of the stock market can be somewhat misleading because trends have changed over time. Trying to deal with these changes and reduce volatility is the main thrust of Faber’s book, using what he calls “shareholder yield.”
The big insight is that dividends have been falling for years, but they have partially been replaced with buybacks, which also put cash in shareholders’ hands but often on better terms once taxes are taken into account. Shareholder yield deals with both dividends, buybacks and a few other ways that management can spend money to increase shareholder value. Faber shows how shareholder yield has beaten the market and dividend-only strategies over the last few decades, and demonstrates that it can reduce volatility as well.
“Many detractors of value and yield strategies argue that the high yield portfolios would have had higher returns only as compensation for bearing more risk. This feature has been true for the highest quartile of dividend yield stocks as they had larger drawdowns from the financial crisis of 2008–2009, but the higher drawdowns are not present in the high shareholder yield portfolio,” he writes.
Faber, who is a portfolio manager at Cambria Investment Management and the co-founder of AlphaClone.com, is no zealot, and he doesn’t pretend to have solved the market with a single formula. As any investor should know and Faber makes clear, past performance is no guarantee for the future, and shareholder yield is meant to be used as a powerful tool that investors can add to their arsenal, not as a replacement for researching companies and studying fundamentals.
Momentum and value filters are just one extension of the shareholder yield approach that Faber mentions in the book, showing how this tool can be combined with other concepts the reader might already be comfortable with. Shareholder Yield: A Better Approach to Dividend Investing isn’t an introductory book for someone wondering how to make money on the market, but an in-depth study of one often overlooked aspect of valuation. If you haven’t been taking dividends and buybacks into account in the past, this book will set you on the road to getting more out of your investments.
