August 23rd, 2011 by The Dividend Pig Investing Commentary 11 comments

Buy low, sell high. Be greedy when others are fearful, blah blah blah

We all know the slogans. Im not here to preach to you the importance of avoiding any hot stocks or ipos what I am here to tell you is that contrary to what others may be saying, dividend stocks are not that popular.

The argument goes like this: The recession hit, and investors fled to the safety, security, and reliable income stream of dividend paying stocks. In doing so, the price has been driven up, and the higher prices of today will erode the gains of tomorrow. But looking at the facts, this doesnt seem to be the case.

First, lets take a look at the underlying causes of stock price movement, and why the overall cost of todays market is not always a great predictor of future gains.

Fundamental Factors

These are the attributes most dividend investors examine. In this category, we can put earnings, revenues, growth, dividend payout ratio, etc. Found on income statements and balance sheets, these numbers represent the financial health of the company, and provide a reasonable framework for what to expect in the near future.

Technical Factors

Technical analysts are looking at stocks purely from a patterned stand point, and trying to predict future movements from past events. Here is where we can place chart and volume patterns, moving averages, and resistance levels. Like in other aspects of life, humans tend to follow predictable patterns, and technical analysts try to find these patterns, then profit off of them.

Economic Factors

In here we can place inflation (or inflation worries), debt ceilings, unemployment, and the latest crops report. The stock market can be extremely reactive to this data, sometimes making moves on nothing more than a new jobs report, or a debt downgrade. Economic factors can oftentimes merge both real data and confidence, producing extreme effects when already low confidence is struck with more bad news.

At any given moment, all three of these factors, to varying degrees of intensity, are playing out in the market. The real problem with predicting how a market is priced today, and how stocks will do in the future, is that this is only provable in hindsight.

Youve Missed the Boat

Looking at historical data from Robert Shiller of Yale, we can see that the cyclically adjusted p/e of the market in the late 1970s and early 1980s stayed pretty much below 10. Then, as the decade wore on, the cape (cyclically adjusted price to earnings) ratio gradually grew, climbing into the teens and eventually into the 20s by the early 1990s.

If you had decided in the mid-1980s that any p/e above 10 was to expensive based on historical standards, well, you would still be priced out of the market (the cape p/e hasnt dipped below 10 since the early 1980s). Looking back, would it have been a smart move to stay out of the market for the past 30 years? Doubtful.

What Im saying here is a basic premise of the stock market past performance is no guarantee of future results. I cant say that a market p/e of 20 is a sell or a buy, because it could be either. But I can say that arguing current prices are too high is only provable after the fact.

There is a very distinct possibility that with more investors, more money, and more access to the stock market, we will never again hit a p/e of 10 maybe 20 is the new 10. Or maybe we are headed to an inevitable crash, and the cape p/e will drop to 4 (Great Depression era levels). Either way, whats important is that no one knows for sure, so waiting for some historically low p/e could you leave on the sidelines for years.

So we can throw out the dividend stocks are overpriced argument, because we really dont know (also keep in mind there are various factors that determine return, in addition to market price are you being taxed on dividends? What fees are you paying? Did you sell at the market peak?) But putting those aside, lets look at the popularity argument.

Popularity is for High Schoolers

This argument states that, with the explosion of dividend articles, bloggers, and websites, the strategy is becoming to popular, and anything popular drives up prices and curtails any future gains. Well, not so fast.

There is one simple, and easy way to prove this idea is flawed if dividend stocks were becoming very popular, and prices were rising, yields would be falling. But theyre not. The opposite is in fact true, and yields are rising, sometimes to historically high levels (Im looking at you Walmart ). But guess what yields are falling? Thats right, US Treasurys.

In fact, if we look at historical records, todays yields are higher than they have been in the past 15 years (though this whole time was low by historical standards). So what the data is telling us is that investors are fleeing stocks in general, not moving money from one type of stock into dividend paying stocks.

Put Me In Coach

I dont have an definitive answer for any of these questions, for I am only a lowly dividend blogger, and my ability to predict future stock movements are poor, at best. But I do know that predicting the future is hard, and Id rather be in the game than shouting from the sidelines.