Dividends vs. buybacks: How to read a stock's yield signals

  • By Lawrence C. Strauss,
  • Barron's
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A dividend yield can offer some important clues about a company and its stock. If the yield, which divides the dividends paid out over a 12-month period by the stock price, is high relative to its historical average, the stock could be a laggard. A low yield could signal that paying a dividend isn’t a big priority or that shares have become expensive.

Another way to quickly assess a company’s capital priorities, however, is the buyback yield. It calculates the dollar value of the shares repurchased as a percentage of a stock’s market value. A high yield indicates that the company is probably repurchasing a lot of shares.

These two yields are both tied to returning capital to shareholders, but their focus is different.

“Buybacks support stock prices, but dividends put cash in my pocket and pay my rent,” says Howard Silverblatt, senior index analyst at S&P Dow Jones Indices.

Buybacks, in theory, at least, can lower the share count and help boost earnings per share. But their real impact and intent can be tricky to discern.

“You need to make the distinction between share buybacks that retire stock in a meaningful way and buybacks that just offset the dilution from stock options,” says David Katz, chief investment officer of Matrix Asset Advisors in White Plains, N.Y. In other words, some buyback programs effectively serve to sop up shares given to executives and employees as part of compensation programs.

It’s also important to pay attention to the valuation at which shares are being repurchased, Katz says. Buying back shares at below 12 times earnings, which is where many bank stocks trade, “tends to be very accretive” to earnings, Katz says. “If you are buying back stock at 25 times earnings, that generally is not going to be that accretive over the long term.”

Two examples of companies that bought back shares at attractive valuations: Home Depot (HD) and Apple (AAPL). The companies, which also pay dividends, have “been big beneficiaries of having major buyback programs as part of their capital-allocation plan,” says Katz.

Some company executives talk about dividends and buybacks as though they’re in one bucket.

Jeff Gustavson, vice president of North American exploration at Chevron (CVX), said recently that the major oil firm expects to return $13 billion this year via dividends and share repurchases. That equates to a total shareholder yield of about 6%, he said. The stock’s dividend yield is 3.8%.

In its second quarter, Chevron paid common stock dividends of $2.2 billion. That’s much higher than the $1 billion it spent on buying back its common shares.

Another thing to be aware of is that dividends tend to be stickier than buybacks. For the past 20-plus years, buyback programs among S&P 500 companies have ebbed and flowed but have easily surpassed dividend payments. Buybacks, says Silverblatt, “are not seen as permanent and can be changed quickly.” But for a dividend, he says, “once it’s paid and increased, it’s hard to pull back.”

Although preliminary numbers show that buybacks among those S&P 500 companies slowed to about $165 billion in the second quarter, they were still well ahead of the $118.7 billion total for dividends, according to S&P Dow Jones Indices.

Among sectors, the dividend-versus-buyback preferences are stark. Utilities in the S&P 500 (.SPX) recently had a dividend yield of 3.18%, third among the 11 sectors and behind only energy (4.03%) and consumer staples (3.74%). The buyback yield for utilities, however, was only 0.44%, the second-lowest sector behind real estate (0.38%).

The highest buyback yield belongs to the financials at 5.04%, followed by tech at 4.9% and industrials at 3.22%.

The combined yield—dividend and buybacks—for the S&P 500 was recently 5.43%, with its dividend yield a little above 2%.

The bottom line: Dividend and buyback yields are both important, but it’s crucial to analyze them in their proper contexts.

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