Recessions typically force companies to retrench. They lay off workers. They delay capital expenditures. They hoard cash and cut costs.
Dividends, however, are usually sacrosanct. Investors—often the proverbial moms and pops—count on them and corporate boards are reluctant to cut them, let alone stop them altogether, even during economic downturns like the one that many forecasters say is in the offing.
Quarterly payouts are hardly a panacea for helping individual investors through an economic and market downturn, but dividend-paying stocks do offer some refuge. In most U.S. recessions dating to the 1940s, stock dividends have been durable, easing some of the pain that investors have felt as their portfolios took a hit during the market downturns that tend to accompany recessions.
“Equity markets decline during recessions because earnings are declining and economic output is declining,” says Ed Clissold, chief U.S. strategist at Ned Davis Research. But dividend stocks provide “a level of income and total return,” even as stock prices come under pressure.
Dividends send a signal “that management teams have confidence in the sustainability of the business and that they are going to have the cash flows to pay the dividend,” he adds.
Ben Snider, a senior equity strategist at Goldman Sachs , points out that during the 12 U.S. recessions since World War II, the median decline in dividends paid by S&P 500 (.SPX) companies was just 1%. In five of those recessions—1949, 1974, 1980, 1981, and 1990—there was no decline, he says. Goldman calculated those figures by comparing the previous four quarters at the start of each recession with the last four quarters at the end.
“The historical data alone would make you feel pretty comfortable in the trajectory going forward, even in the event of recession,” says Snider.
Of course, recessions differ in their duration and causes. Consider the two-month economic contraction from February to April 2020 when the pandemic caused much of the U.S economy to shut down temporarily and gross domestic product shrank by a third. That year, 42 S&P 500 companies suspended their dividends, and there were 28 cuts. While many of the cuts came from companies most affected by Covid lockdowns, “2020 was particularly extraordinary in the speed with which the economy shut down and [corporate] cash flows slowed,” says Snider.
But, he adds, “even in the sharpest and deepest recession in modern history, S&P 500 dividends only fell by 3%.”
Then there is the recession that went from late 2007 through mid-2009. S&P 500 dividends per share dropped by 24% during that period, by far the worst result of any U.S. recession going back to the late-1940s, according to Goldman Sachs. In 2008 alone, 22 S&P 500 companies suspended their dividends and there were 40 payout cuts, according to S&P Dow Jones Indices.
But many of the dividend cuts were by banks and other financial companies as the subprime mortgage crisis ravaged the economy. Citigroup (C), for example, in early 2008 slashed its quarterly dividend to $3.20 a share from $5.40. It cut it twice more during that recession and eventually suspended it. The bank didn’t resume paying a quarterly dividend until mid-2011 at a penny a share.
In the recession that unfolded in 2001, S&P 500 dividends fell by 6%, the second-worst drop behind the 2007-09 downturn.
Yet although that recession was associated with the bursting of the tech-stock bubble, dividend cuts went beyond tech stocks, in part because some of the big names in that sector weren’t even paying dividends at that time. Microsoft (MSFT), for example, didn’t initiate one until 2003.
So what now, as recession predictions grow louder by the day?
Clissold and his colleagues at Ned Davis Research have analyzed dividend-paying stocks in the S&P 500 versus those that don’t pay one in every recession going back to the mid-1970s. He points out that dividend-paying stocks tend to outperform nonpayers as a recession approaches and during the early stages of that contraction.
“During periods of market declines, [dividend stocks] tend to be more stable and decline less” than stocks that don’t pay dividends, says Clissold. “Markets tend to lead the economy, so stocks in general tend to peak, on average, five-six months before the start of a recession.”
But at some point, as a recession continues and better economic times appear on the horizon, dividend-paying stocks lose their performance edge to the nonpayers “as the markets start to price the end of a recession,” Clissold says.
Another consideration for investors: There are different kinds of dividend stocks to consider when preparing for an economic contraction.
During a recession, “the market turns its attention to businesses that it thinks are going to be more stable and protected,” says Donald Kilbride, portfolio manager of the Vanguard Dividend Growth Fund (VDIGX).
Kilbride favors stocks with strong dividend growth over those with very high yields. As of March 31, the fund’s top holdings included Johnson & Johnson (JNJ), which yields about 2.5%; Coca-Cola (KO), 2.8%; and Colgate-Palmolive (CL), 2.3%.
One of his colleagues, Peter Fisher, says there’s a big distinction between high-yielding stocks and those with strong dividend growth. The latter, he says, fare better during recessions “because the characteristics of the high-yield companies can be much more volatile than the characteristics of dividend growers.”
Josh McCourt, equity research analyst at Adviser Investments, likes financially sound companies that are likely to continue lifting payouts. His firm’s dividend strategy’s holdings include Microsoft, Apple (AAPL), Costco Wholesale (COST), JPMorgan Chase (JPM), Nike (NKE), Procter & Gamble (PG), and PepsiCo (PEP).
“Those well-capitalized companies that continue to increase their dividends through recessions are the companies you want to own,” says McCourt, “especially when things are looking ugly out there.”
|For more news you can use to help guide your financial life, visit our Insights page.|