When Dividend Growers Fail To Grow

Now that I’ve traded the chains of employment for the wide-open vistas of Financial Independence, there are very few things I miss from my working career.

But along with the job, came steady pay increases.  Most of the time these were really minimal — mere 3% cost-of-living increases.

So why do I miss those tiny raises?  The need for a constantly growing income is a real concern when you no longer rely on a job  — inflation constantly eats away at the buying power of a dollar.  Given enough time, inflation can cause serious damage to a long-term investor.

This is why I love my dividend growth investments.  Every year these guys “raise” the dividend payout above the rate of inflation, which provides for a growing income stream.

Except sometimes they don’t.  

Recently I’ve had a few of my investments “skip” their standard raises.  They’ve been merely maintaining the current payout.

It’s got me thinking — What if my investments fail to increase dividends above the rate of inflation?  Should I sell those investments, or hold-on in the hope of future increases?  Would it be worth it to suffer through capital gains taxes in order to change investments and realize income growth again?

These questions aren’t easy to answer, but I did have some thoughts on the subject I’d like to share today.



Like a good slap-in-the-face, recessions are great at bringing even the most wild-eyed investors to back to reality. Recessions remind investors that stocks don’t always go up, and dividends don’t always rise.  

While many companies struggle during recessions, there are always few companies that continue raising dividends  — I wrote about them recently in the post “Have You Met The Dividend Achievers?”.  Those guys are rare birds.

In many cases, dividend increases are postponed during recessions until better days return.  In bad recessions, dividends can even be cut to preserve cash for the survival of the company.

So, this brings us to the question — During a recession should I sell an investment that halted dividend increases?  Or cut dividends entirely?

In most cases I wouldn’t.  The recession usually isn’t the fault of the companies that halt dividend increases, and preserving cash during such times can actually be a very smart move by the business managers.

In many situations, doing the exact opposite (buying more) is the smarter move during a recession.  Assuming the company eventually survives and returns to a healthy state, buying investments during a recession means higher long-term returns and the potential for much larger dividends in the future… exactly what investors want.

During the 2009 Great Recession, Wells Fargo (a perennial dividend grower) was cutting dividends significantly.  Dividends dropped from $0.34 per share to $0.5 per share.  During the same time period, the S&P 500 cut dividends by 23%.  Other large banks like Chase and Bank of America did the same.  Nobody was immune from the effects of the recession, not even index investors.

It wasn’t until 2014 that Wells Fargo exceeded it’s old $0.34 payout, and 2013 for the S&P500.

Wells Fargo
Despite low dividends, big banks like Wells Fargo, Chase, and Bank of America were able to survive the Great Recession and eventually thrive.

Four to five years is a very long time to wait for a dividend increase.  But, it was also the right time to buy more stock.  Shares of Wells Fargo and the S&P 500 have more than doubled from where they were in 2009, and dividends are higher than ever.

History will show the recession as a blip for Wells Fargo, but for competitors Wachovia and Washington Mutual, the recession proved fatal.  If you recall, Wachovia was purchased by Wells Fargo at bottom-of-the-barrel prices, and Washington Mutual went completely bankrupt.

This little history lesson provides an interesting maxim about investing during recessions — it’s not the income that matters, it’s picking the survivors.


Declining Financial Conditions

Recessions aren’t the only reason why dividends can be cut.  Companies can run into financial trouble from poor management and/or declining industry conditions.

Such financial pressure can eventually lead to halted dividend increases or even dividend cuts.

Unless you live been living under a rock, you’ve probably read about or experienced how oil prices have cratered in recent years.  Gasoline is dirt cheap, and airlines are actually making money.  While that’s great for airlines, the oil industry has really been feeling the pain!  

This pain has translated into minimal dividend growth for stocks in the oil industry  — In 2016 Chevron only raised dividends by a single penny, and Exxon only raised by two pennies — really just token increases that tell investors “Yes, we know the dividend raises are important”.

Other companies like Kinder Morgan even cut dividends by 75%!  KMI’s stock price cratered as a result.

More than likely, all three of these companies are going to survive these difficult times.  All three are strong companies, but I really like how Kinder Morgan’s management dealt with the problem.  

Why?  The pressure to maintain dividends at Exxon and Chevron will eventually cause declining financial conditions.  All three companies are paying dividends that exceed their earnings — a payout ratio well over 100%.

Both Chevron and Exxon were able to grow dividends by token amounts in 2016 — but is that really a good thing?

While Exxon and Chevron were able to maintain their previous payout rates, they’re actually driving themselves into a bit of a hole financially.  

Debt levels and payout ratios at Chevron and Exxon are getting worse, but they’re actually improving over at Kinder Morgan.

Given enough time and excessive dividends, Exxon and Chevron could drive themselves into very poor financial shape.

When you think about it, this is situation is very similar to a person who suddenly loses a job.  That person can maintain their standard of living using credit cards and debt, OR they can avoid further financial ruin by cutting back their spending.  

That’s exactly what’s going on here.  Kinder Morgan is cutting back, while Chevron and Exxon are still living “high-on-the-hog”.

The big lesson here is that investors shouldn’t hold dividends as “holy”.  If business conditions decline, the right move is to preserve the financial health of the company… even if that means crazy-big dividend cuts.  Short-term pain, long-term gain.  

Ultimately business blips are going to happen in most industries, so the diversification of income streams is important for investors who live off dividends like myself.  

Always be prepared to cut back your spending and invest more when prices are low… especially when management acts responsibly.


Capital Gains

Maybe you’ve finally had it though.  Maybe you want to call it quits on that international index fund, or that hot stock you invested in — You’ve put up with no dividend raises, and poor returns for years.  Despite some capital gains in past years, you’re feeling the itch to sell.

But is it worth it if you have large capital gains you’d realize from such a sale?

In most situations, I think it’s probably worth it to pay the capital gains.  Unless brighter days are already on the horizon, a turnaround might never happen.  

While I love long term investing and the returns it can provide, certain sectors of the investing world can remain depressed for decades.  As Warren Buffett is famous for saying, “Turnarounds seldom turn”.

Hypothetically, let’s say you sell and pay your taxes.  In most cases that means you’re looking at 15-20% less capital to invest (depending upon your tax bracket).  At normal rates of stock returns, this means recovering from that setback is only two to three years away.  Not that terrible.

Overall, I believe it’s better to keep your dollars invested in industries that see good returns on capital rather than struggling with duds.  Eventually if you’re invested in the right funds (or the right stocks) you will see income growth again.



Final Thoughts

While I do love a growing income stream, if anything these examples emphasize a major point — The dividend tail should not wag the investing dog.

In other words, dividends alone should not drive investing decisions.  

It’s often the case that investors who depend on dividend income for living expenses tend to overemphasize dividends as part of their investing criteria.  I believe this to be a wrongheaded way to invest. 

Dividend cuts and raises are merely a symptom of change within a business or industry — it could be either good or bad.  Without further research, an investor will never know whether it’s the right move to buy or sell.

Do your homework folks.


[Image Credit: Flickr, Flickr2, Flickr3]

19 thoughts on “When Dividend Growers Fail To Grow

  • March 15, 2017 at 4:50 AM

    Hey Tako

    You don’t need to sell ALL of your stocks at once to recognize the full amount of capital gains. If you plan ahead and utilize “capital gain harvesting” year over year, you tax implications will be minimal if not nil. As long as you stay in the 15% marginal tax bracket, you could have close to 95k in income (assuming dividends and capital gains mostly) and 75k in taxable income (minus standard deduction plus 2 exemptions if no kids ~ 21k), you won’t pay a penny in tax on that income. Do it every year and increase cost basis of your stock portfolio virtually eliminating the debt liability.

    Obviously if you have a ton of other income (real estate, blog, a job) you won’t be able to harvest as many gains if at all, but most early retirees should be able to utilize that technique.

  • March 15, 2017 at 12:25 PM

    Pay increases? What are those? 😉 Even if you have a job it doesn’t guarantee a pay increase year over year (even for inflation), so that sucks. But it’s great that you have those dedicated little dividend-growers working for you most of the time.

  • March 15, 2017 at 12:43 PM

    Very interesting observations Mr Tako. I have found that holding a diversified portfolio helps a lot. In general KMI cut dividends.. But despite that, this portion of my portfolio still did better than many of my international stocks ( KMR sine 2008, turned to KMI in 2014).

    I have found after analyzing investments that I suck at selling. Almost everything I have ever sold has done better than anything I bought with the sales proceeds. Hence, I just stick to what I own, and allocate dividends and new capital elsewhere.

    Btw I looked at Exxon in the 1980s and 1990s, when oil prices were not that high, and we had some slow dividend growth ( DPS doubled in 15 years while net income was largely flat). But then, when things went up nicely for the oil industry, Exxon started paying up. The thing that helped were buybacks.

    It would be interesting to see if XOM can continue their streak. Let’s check in April. Perhaps they can Chevron their way around, and just boost dividends by half or quarter of a cent to maintain the streak around. Do you think they will cut?

    • March 15, 2017 at 1:01 PM

      As long as oil prices remain low, the math says they’ll either have to cut or start borrowing a lot more. They’re already under-investing in the business by about 10 billion a year.

      For Exxon, the odds are good they’ll borrow more

  • March 15, 2017 at 8:20 PM

    Diversification is the key in this case. If one stock cuts their dividends, another may not. But if the stocks are in the same sector (ie oil), you’re kind of screwed. Which is why it’s so important to consider sector risk when dividend investing. In Canada, we are heavily oil and financials based, so that’s why dividend investing ends up incurring sector risk.

    As for inflation, that’s why we like having equities in the portfolio to hedge for that. As prices go up, companies charge more and that comes back to the shareholders. Global arbitrage also does wonders for inflation. Somehow the prices in Thailand have barely changed in the last 10 years…

    • March 15, 2017 at 9:55 PM

      People are less diversified than they think, mainly because of market weighted indexes. I don’t think people really understand how they work.

      For example, the S&P500 is heavily weighted in tech companies (21.68%) and financials (14.88). There can be significant sector risk even in index funds. FOUR tech companies alone make up 10% of the value of the S&P500. Yep, only four companies — Apple, Microsoft, Facebook, and Amazon.

      • March 16, 2017 at 3:23 AM

        I’m not a big fan of investing for dividends as it’s too easy to end up concentrating your holdings in specific industries. There are people that can do it well and avoid these risks, but I’m not one of them. I read and agree with your comment that the s and p 500 is fairly concentrated, but across a few different categories of index funds you do end up diversified. I.e. A mix of small, mid, and large caps with internationals thrown into the mix diversifies.
        Fulltimefinance recently posted…Game Theory and Personal Finance

        • March 16, 2017 at 8:00 AM

          That’s a good way to spread the risk away from the “hot” stocks with the biggest market caps — pick specific index funds that target the small and mid caps.

      • March 16, 2017 at 5:08 AM

        This is a good point Mr. Tako. What would you say to readers who’d like to be more diversified, but only invest in indexes?

        • March 16, 2017 at 7:52 AM

          I don’t have any specific funds to recommend, but I would suggest taking a very detailed read about fundamentally based indices: https://en.wikipedia.org/wiki/Fundamentally_based_indexes

          They outperform market-cap based indices by a couple percentage points, but do have slightly higher costs. Why this happens is the deeper question, but I shouldn’t say more…I’m bordering on heresy here already

          • March 16, 2017 at 9:55 AM

            Thanks for the advice and for going out on a limb! It’s always good to hear the Tako Take on things! 🙂

  • March 16, 2017 at 6:09 AM

    Very interesting Mr. Tako — I have longer term plans to start a dividend portfolio. Apologies if you touch on this elsewhere in the site (I need to read through the archives), but what’s your take on MLPs or ETFs that include MLPs?

    Love the site! –R

    • March 16, 2017 at 7:56 AM

      I haven’t said anything about MLPs specifically, but MLPs are great! Like REITs, they can be an excellent way to hold some assets in a very tax efficient manner. Those assets might not always be the highest return assets, but the very low/nonexistent taxes go a long ways toward making up for that.

      Fair disclosure – I own some MLPs indirectly, and a couple REITs directly.

  • March 16, 2017 at 1:07 PM

    This is why I like selling options for income. I “make my own dividend”. The process works even better during down markets as the premium includes a volatility component.

    Also, I am human or cephalopod.

  • March 17, 2017 at 3:36 PM

    FYI your blog menu doesn’t work on the iPhone. Great blog by the way.

      • March 18, 2017 at 9:44 AM

        The default Safari browser on iPhone. Works great on the computer though.

  • March 17, 2017 at 4:20 PM

    In an effort to simplify my life, I turned over a new leaf about a year ago and have been moving most of my portfolio to index funds. Despite this change in direction, I have maintained a relatively small position in BP that I bought as a turnaround play. Their dividend payout ratio is currently a whopping 6000%! Although the stock is down about 10% since I purchased it, I am basically even after collecting 1.5 years of dividends. Any sane person would sell, but I am committed to this little experiment for the long-long term.

  • March 18, 2017 at 7:54 AM

    It makes sense for shareholders to not hyper-focus on dividend increases. Your comparison to families tightening their belts is apt.


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