The baby boom generation born after World War II has finally begun to reach retirement age. This has been a much anticipated event. Pundits have projected everything from steep market declines as boomers pull money out of investments to live off of, to heightened demand for some types of investments—particularly those that produce income. One thing that everyone agrees on, however, is that there are going to be a lot more people living in retirement over the next 20 years or more.
Indeed, although the generation is beginning to hit retirement age now, it actually spans many years (with two birth peaks), so the impact will be spread out over a long period of time. This is especially important because life spans have been increasing, leaving many boomers facing 20 or more years of retirement to pay for and compounding the number of retirees over time. That span, interestingly, is so long that it is unlikely that a retiree will not have to endure a market correction at a time when they are not capable of replacing lost savings with new income.
Some will simply opt out of investing all together and, instead, purchase such things as immediate annuities. This is a viable option, though it can be costly and result in inflation eating away at one’s buying power over time. Bonds, meanwhile, are another option, but the income provided by relatively safe bonds is minuscule today and not safe from inflation. Riskier bonds, meanwhile, open an investor up to losses and some still don’t keep up with inflation. Dividend paying stocks would seem to be a happy medium.
There are clearly risks involved when investing in stocks. Capital can be lost to bear markets, however, if selected well, dividend paying stocks can keep purchasing power whole (or even grow it) over time. Moreover, if one reorients their view of investing as buying the future dividend stream instead of buying for price appreciation, market turmoil becomes much less troubling.
Take retail and grocery giant Wal-Mart (WMT – Free Value Line Research Report for Wal-Mart) as an example. This stock, purchased at its calendar year high in 2011, would have cost $58.80 per share (the yearly high and low prices are shown across the top of the Graph on each Value Line report). At the end of 2011, the share price was $60.00. This period included one of worst recessions on record and talk of lost decades—a troubling time to say the least. Clearly, the share price gain of a little over a dollar wouldn’t have made one rich. However, over that period, the annual dividend increased from $0.27 per share to $1.46. Value Line calculates the 10-year dividend growth rate to be 18.5%! That is well above the rate of inflation over that time span and would have been a great comfort to an investor watching a share price that was going virtually nowhere. That said, Wal-Mart’s discount model created a unique case where the 2007-2009 recession led to its share price going up.
Hardware giant Home Depot (HD – Free Value Line Research Report for Home Depot) is another example, but one where the recession left the shares trading materially lower than the price at which they entered. Indeed, the shares were trading in the $40 range before the recession started, sunk to the high teens, and came out of the recession in the mid $20s. While the stock, and earnings, faltered, the dividend held at $0.90 per share per year. Although there would have been some nights where sleeping was difficult, there was never a point where earnings and cash flow didn’t handily cover the distribution. The shares recently traded hands in the low $50s and the dividend payment stood at $1.04 per year. Looking at the dividend and how well it was covered, instead of the stock’s share price, could have made sleeping a little easier.
Investors looking for income will find many options; each has its positive and negative traits. Stock investing is often looked at as one of the highest risk, which may not be as true as the perception. For starters, inflation is more important than most believe, and, secondly, looking more closely at dividend income than share price, can help shareholders ride out the inevitable bad times. In effect, you are being paid to wait out the rough patch.
Every investor’s situation is different, but with most looking at 20 years or more in retirement, dividend income should probably play an important role in most retiree’s portfolios. Changing the way you look at a stock, with a focus on the dividends it pays, can make a huge difference in the impact that market turbulence has on you.
At the time of this articles writing, the author did not have positions in any of the companies mentioned.