The Year of Governments Living Dangerously describes the rather sickening performance of worldwide governments in 2011:
"What words could best describe the most baleful influence on the global economy in the year 2011? How about "governmental dysfunction?"
The European banking crisis that has threatened global finance is about nothing more or less than the failure of the governments of Greece, Italy, Portugal, et al., to control their budgets, raising doubts about the value of their bonds. Rather than trim their bloated public sectors, they have preferred to beg for bailouts.
The U.S. government has run deficits exceeding a trillion dollars for the last three fiscal years, forcing it to borrow heavily from the Federal Reserve, China and Japan. Despite warning signals from credit-rating agencies, Washington is doing no better than the Europeans in bringing spending under control.
Private banks in the U.S., Asia and Japan have been enlisted to help finance massive public deficits. As a Christmas present to beleaguered governments, the European Central Bank on Dec. 21 pumped $640 billion into European banks. French President Nicolas Sarkozy suggested pointedly that they use it to buy sovereign debt. So much for the ECB's one-time resolve to hold the line on sovereign-debt bailouts.
U.S. and Japanese banks, whose main business once was lending to the private sector, also are responding to various inducements to load up on government-issued paper. In simple terms, governments are increasingly plundering the private sector to raise cash. Meanwhile, the Federal Reserve's low-interest-rate monetary policy is doing little to help the banks and doing a lot to put public pension funds in jeopardy. Teachers, policemen, firemen and the like won't be able to count on the benefits defined in their contracts if the funds continue to have extreme difficulty in getting a decent return on investments."
Now let's look at cash dividends and their outlook in How Dividends Could Save the Day:
"So if investors can’t rely on strong earnings growth or a rapidly expanding economy, what’s left to keep the bulls hopeful?
One possible answer may be dividend growth, market observers say.
“In an environment where economies around the world are slowing, growth is starting to get scarce,” said Thomas Huber, a portfolio manager at T. Rowe Price, “and interest rates are so low, it makes sense to focus on companies that can grow their dividends over time.”
Unlike corporate profits, which rebounded to record levels last year, overall dividends paid by domestic companies have yet to recover fully to the highs reached before the global financial crisis. Yet that could change early this year. S.& P. 500 dividends are expected to grow by nearly 11 percent in 2012, said Howard Silverblatt, senior index analyst at Standard & Poor’s. “The dividend story is good and should continue to be good,” he said.
Yes, there is always the possibility that companies could reverse course and cut their payouts to shareholders. “But if companies cut, forget dividends — that’s a sign that the economy is really shot,” he said.
MR. SILVERBLATT says one reason for continued strength in dividends is that companies are sitting on record amounts of cash. And “companies have been pounding their chests about the importance of dividends, yet the dividend payout ratio is a little under 30 percent,” he said, referring to the percentage of earnings that corporations are passing along to shareholders as dividends.
Historically, he said, the payout ratio has hovered around 50 percent for S.& P. 500 companies.
Low interest rates are another reason that investors are likely to focus on dividend growth. Since 1962, the dividend yield of the S.& P. 500 has averaged about 40 percent of the yield on 10-year Treasury notes. Today, however, the S.& P. is paying more, dividend-wise, than 10-year Treasuries.
In such an environment, market strategists say, investors tend to lean toward dividend-paying stocks. And if corporate profit growth slows as expected, that interest will only grow."
Interest rates will stay low as economies struggle to regain their footing. Government central bankers will engage in financial repression in an ongoing attempt to keep rates low and reflate asset prices across the board. This will help governments to service their debt obligations through lower interest rates.
Meanwhile, cash dividends will increase and dividend yields will become even more attractive relative to current share prices. In fact, both dividends and share prices should increase nicely over time.
As a benchmark comparison, the fact that dividend yields presently exceed interest rates on ten year government borrowings is remarkable. Historically, dividend yields have been only about 40% of the ten year government borrowing rate.
And if company profits continue to improve, as is likely, further dividend increases are in store for shareholders.
The problem with using traditional investment strategies today is the historical reliance on bonds as a substantial percentage of the overall investment portfolio.
With current borrowing rates at historical lows, bonds will do no better, and probably worse, than earning their coupon as interest rates are likely to increase over time. Thus, bonds will be lucky to break even with inflation these next several years. It won't be a good time to own investment grade bonds.
Thus, we should buy shares of good companies at currently attractive prices and dividend yields (buy by using dollar cost averaging over several months), monitor their annual dividend growth rates, and enjoy the multi-year ride.
Some current examples of attractive companies paying solid dividends are Pfizer, Merck, Abbott Labs and other drug companies, McDonald's, Wal-Mart, Home Depot, Pepsi, Coke, Whirlpool and other solid consumer oriented companies, GE, Boeing, Honeywell, Caterpillar and other industrial companies, Exxon, ConocoPhillips, Nucor and other commodity producers, as well as Intel, Microsoft and other technology companies. Finally, some well capitalized banks like JP Morgan, Wells Fargo, U.S. Bancorp, BB&T and others will probably also do well over the coming years.
The above list of companies is not meant to be exhaustive, but it does represent a cross section of well managed and solid dividend paying blue chip American based firms, most of which have a global business platform.
The essential point is that interest rates are likely to remain low for some extended time, and cash dividends should continue to grow during that time. Of course, future dividend growth will start from historically high levels in relation to interest rates on bonds.
And that's why I believe as I do.
Thanks. Bob.
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