Why Are Dividend Investors Getting Nervous?

Dividend investors getting nervous
Nervous? Me? No. You?

It’s no secret that there is a lot of concern amongst dividend investors these days; it seems that everybody and his dog in the financial press is asking (and then answering) the question: Is it time to get out of dividend-paying stocks? (Some people are even messing with their readers, including Robb, over at Boomer & Echo.)

Generally, their answers are: No, you shouldn’t dump your dividend stocks. Why? Because:

  • interest rates may yet stay where they are for some time, so don’t leave the party early; market timing is a mug’s game
  • a properly diversified portfolio is already prepared to take advantage of a rise in interest rates if and when it comes
  • stock picking and sector rotation are not games that most individuals can win on a consistent basis; it is far better to pick your strategy and stick with it.

That’s all well and good, but that doesn’t answer the question that I’ve heard posed around the water cooler a few times recently: If rising interest rates are ultimately a sign of a healthy economy, why are people worried about dividend stocks falling? Here’s why:

To understand the answer to this question, you have to understand what bonds are, and how they work. Bonds are loans that investors make to companies or governments. The companies or governments pay interest on those loans at pre-determined rates for a pre-determined amount of time, and then the original capital is returned to the investor. Bonds are considered among the safest of investments. If a company goes under, the bond holders are the first to get paid when the company’s assets are divided up. Also, unlike dividend payments, bond interest payments are a legal obligation.

With interest rates so low over the past years, bond investors have been forced to look elsewhere for yield. In terms of predictability and security of income, divendend-paying stocks are only one rung below bonds — a big rung, to be sure — but the next best alternative.

Dividend investors chuffed

The result of all of these new stock investors (i.e. the former bond investors) jumping into the stock market is that the price of many dividend-paying stocks has climbed higher, as there are more and more buyers for these large, liquid, relatively stable companies. This is primarily what has driven the prices of these companies up over the past few years. Many of the people who were in dividend stocks when this started (myself included, I have to admit) have been feeling the thrill of the buy low, sell high investor, as prices have risen ever higher.

Rising prices have attracted traders, pushing prices higher yet. While the party lasted, everybody was having a great time.

The fat lady is just about finished warming up

Now that interest rates look set to rise again, bond investors will go back to what they know: safe, secure, regular bond payments. Of course, to invest in bonds, they will have to sell their stocks. Large numbers of people selling large numbers of shares inevitably leads to lower prices. Traders, seeing the writing on the wall, don’t want to get caught holding the bag, so they sell as well, and the result is falling stock prices, like we have had over the past month or so.

To me, it seems inevitable that the recent drops in dividend-paying stocks will continue over the next several months. How far, and how fast prices will fall, I have no idea, but the direction seems sure. The most important thing for dividend investors to remember is to focus on the number that really matters: not the total value of the portfolio, but the amount of money your stocks generate for you.

So, no, don’t sell your dividend-payers.






6 thoughts on “Why Are Dividend Investors Getting Nervous?”

  1. It seems like the media just wants to talk about short-term trends and how to be clever and shift your assets to the next big thing. And then an article will come out saying you need to stay the course, changing strategies every few years is bound to fail.

    I accept the fact that the stocks I own might fall out of favour for a while. The nice thing about dividend stocks is you’ll get paid to wait it out.

    Thanks for the mention!

  2. I agree with what you say about the media. Investing is – should be – about sound principles, and then ignoring the day-to-day gyrations. The thing with the media is, they get paid to write about money, so that’s what they do.

    Tell me, though, have you ever been tempted to try to take advantage of a change or trend you’ve seen coming? It seems to me pretty sure that dividend stocks are going to get hammered in the next months. If you agree, are you planning on doing anything about it?

  3. To be honest, I’m not sure I’ll do much of anything. I was very lucky to start investing in individual stocks at a time when there were plenty of bargains to be had (mid-’09). Even if we see a slump in dividend stocks, I doubt very much that we’ll see those lows again. So then the question becomes, how long do you stay on the sidelines ?

    Generally, the cost of being out of the market is greater than the risk of being in it. So I’ll stay invested and continue to add new money when I see value.

    The other side of it is, all dividend stocks are not created equal. Stocks like Canadian Oil Sands are a relative bargain right now, so I’d maybe add those dividend stocks rather than adding to the relatively high value teleco’s and utilities.

  4. You said on your blog that you don’t have the stones to sell and wait for a fall to re-purchase. Honestly, neither do I.

    The cash I have right now sort of grew organically; it wasn’t a deliberate strategy on my part. Nevertheless, the fact is that I have that cash now, so, as you say, the question is how long to stay on the sidelines.

    After seeing the fall in Canadian and US stocks yesterday (when Bernake has no news) I think there’s going to be a bigger drop when he actually changes course. Of course, I’m not exactly the only person expecting this, and if too many people are expecting it, it might not happen.

    I think that not selling what I have now, but keeping the rest of my powder dry for a while longer allows me to play both sides of whatever may transpire over the next months.

    Thanks for the COS tip. It had been too long since I checked them out. Good divvy raises over the last little while, too! (Are you familiar with OSF.UN? It’s a closed-end MF with a current div of almost 9%. Thoughts?)

    1. With hindsight, maybe I shouldn’t have used the word “tip”, as it has specific connotations in the stock-trading world.

      COS has a 7.25 yield as I write this. Wait for a further fall? Buy now to lock in this yield? Decisions!

  5. I follow Tom Connolly’s Dividend Growth blog – http://www.dividendgrowth.ca/dividendgrowth/

    He’s a big proponent of being patient and waiting for the bargains. The problem is, nobody knows when those lows are going to appear – will we even reach the March ’09 lows again?

    I have no problem accumulating dividends and even leaving your new contributions in cash for a while as you wait for a really good bargain. My problem is with selling what I already own on the assumption they’re overvalued and that I can buy back in later at a lower price. No guarantees there, other than that I’d likely guess wrong 🙂

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