Better Than Bonds And An All-Time Record

payout ratios

The collapse of U.S. Treasury yields and the simultaneous end of the bull market has produced a new all-time record for the S&P 500, albeit under less-than-desirable circumstances. Chart 1 documents the spread between the S&P 500 dividend yield and the 10-year Treasury yield since the S&P was launched in 1957. As of March 12th, the S&P 500’s yield exceeded the 10-year Treasury by a record 1.64%; a virtual fountain of cash in an era starved of current income. Should you look to dividends instead? Maybe but make sure to take a look at the payout ratios before you consider that option.

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Q4 2019 hedge fund letters, conferences and more

payout ratios

S&P 500 And Treasruy Bond Yields

Financial advisors often refer to a 4% withdrawal rate as a reasonable reference point for individual retirement planning. Yet, with Treasuries yielding less than 1% and investment-grade bonds barely above 2%, the notion of producing 4% income per year—without dipping into capital—seems more distant than the summit of Mount Ever-est. However, the bull market’s sudden demise has lifted equity yields such that 148 companies in the S&P 500 yield more than 4%. Of course, this is before the inevitable dividend cuts that will come from the most vulnerable companies, and a national crisis is hardly the time to chase the highest yields in any asset class. Still, we note that companies must have a fairly solid business profile and history of profitability to be selected for the S&P 500, so we aren’t exactly rummaging through the trash heap.

There are opportunities aplenty, and we surveyed the S&P 500 to see what a basket of attractive yielders might look like today. Table 1 tallies all 181 S&P stocks yielding more than 3.5% that could be fashioned into a dividend portfolio hitting that 4% target. We group these companies by sector to reveal exposures to the weaker sectors such as Energy, as well as the potential to buy into more resilient sectors like Staples and Utilities.

payout ratios

Caution Against Buying Companies With High Payout Ratios And Weak Cash Flow

Of the companies in Table 1, we note that 156 have dividend payout ratios of less than 75% on estimated 2020 earnings. We expect dividend cuts to surface as some firms face extremely adverse demand shocks (leisure, hospi-tality, tourism) while others decide to horde cash to ride out the Covid-19 uncertainty, and we caution against blindly buying companies with high payout ratios and weak cash flow. We suspect Energy company dividends are particularly flimsy today, and cuts to dividends and capex will likely become the fashionable industry trend. Other-wise, there are undoubtedly some keepers among the full list of stocks shown in Table 2; fertile ground providing exposure to a broad swath of attractive yields across the equity markets.

payout ratios

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About the Author

The Leuthold Group
Founded in 1981 as an independent investment research firm, The Leuthold Group has been producing original analysis for the institutional marketplace for nearly half a century. Driven by the research, in 1987 the firm established its investment management arm which is centered on tactical asset allocation and disciplined quantitative methodologies.