Can Cash Flow Make Up For Falling Prices. Clients often ask me how I can hold on to a stock when the price is dropping. The question they ask is, "What good is a quarterly dividend of $1.00 when the price of the stock drops $10. If you think the stock is going to continue to drop and will never rebound, it is probably best to sell it but that is seldom the case unless the dividend is reduced or discontinued. Using a American Capital Strategies, company I have held since December 2000 as an example, we can see the value of dividends over a long holding period. The stock was paying a $2.08 annual dividend when I bought it for $22 per share. Based on dividends alone, the annual return was 9.5%. I have held it for the past 7+ years, during which time the dividend has increased steadily to the current $4.00 per year. My total dividends collected over the holding period were 19.93, only slightly below my $22 acquisition price. During my holding period, share prices ranged from 17 to 48 per share. In February of 2007, the price was $48 per share. Since that time it has dropped to as low as $26. It is currently at around $34. If I were a genius, I could have sold at 48 and rebought at $26 but I have no way of knowing how share prices of an individual company are going react to market dynamics. There is a whole volume of research that shows share prices don't react to news in a consistent, predictable manner. Another volume of research shows that the majority of investors tend to be worse off when they guess when to get in and out of the market. It has always worked out better for me to monitor a company performance and sell only when I think the fundamentals of a company have changed. I really don't care that the market price of American Capital Strategies has dropped from $48 to $34. I am satisfied with my $4.00 annual dividend.
Some Financial Experts Agree With Me. Wharton Professor Jeremy Siegal has published some calculations that show 97% of the market return over the period from 1872 to 2003 have come from dividends and only 3% come from capital gains. Despite my preference for cash flow, I am surprised that those figures are that high. Kathleen Fuller and Michael Goldstein published an article that show, in a declining market, dividend stocks out perform non-dividend stocks by 1 to 1.5% per month. Even more important, they do it with less risk. In view of these statistics, I am surprised that you don't hear more about dividend stocks.
Will The Market Value of Your Portfolio Decline More? I think it probably will, especially after today's 370 point drop. You can get out if you want. Safe returns are 2-4% and going lower. For me, this is a surefire way to being forced to lower my spending habits. While this isn't all bad, I prefer to change my habits by choice, rather than by necessity. You can take your licks in non-dividend stocks, or you can move into some of the higher dividend stocks. You may have to wait for a rebound in price, but at least you'll be paid to do it.
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