We live in a time of increasing volatility. Looking at the period of the past four months, we have seen all the different facets of Mr. Market’s mood. Let’s take the S&P 500 as an example. On the one hand, November and December 2018 were characterized by a heavy downward movement. The index dropped by approx. -8.50%. On the other hand, the period from January to February 2019 shows a completely different picture: A stellar recovery and a stock price appreciation of almost +11%.
Slowing Dividend Growth
While I’m not too concerned by the ups and downs of the share prices, I do care about growing dividend income. In this respect, however, 2019 seems to be a less generous year than the previous ones. Many companies announced dividend increases that are significantly lower than in 2018 and way below their long-term dividend growth rates. Two examples: Coca-Cola (KO) and Pepsi (PEP). KO raised its quarterly dividend by 2.6%. PEP’s increase came in at 2.91%. There is really not much excitement in these figures. Are we witnessing a slowing dividend growth trend? Is a “dividend growth recession” on the horizon? Bert from Dividend Diplomats has published a good article about this topic recently: Slowing Dividend Growth in 2019 And Why It Is Not All Doom and Gloom. It’s definitely worth a read!
The slowdown in the dividend growth rate does not come as a surprise. This is especially quite evident when looking at some mature businesses that struggle to find organic growth. We hardly will see companies increasing their dividend at a high rate if revenue growth has stalled and a major part of the free cash flow is being used to cover the dividend payment. Staying with the above examples of KO and PEP, it becomes more understandable why the two consumer giants stepped on the dividend growth brake recently.
Firstly, both companies have had a hard time generating organic growth. Over the course of past five years PEP’s revenue was rather flat. KO’s record is even more alarming. The revenue dropped each year starting from 2013. Obviously this is something that I’m not happy to see. In the end dividend growth will only be sustainable if the company is also growing its revenues and earnings over time.
Secondly, we have to take a closer look at the free cash flow situation. In the above chart we can see that PEP’s dividend is taking an ever bigger part of the available free cash flow. On the one side, PEP is raising its dividend every year – thankfully since 46 consecutive periods. On the other side, however, the free cash flow trend is depressed, due to the lack of growth. As a result PEP’s current FCF payout ratio is sitting at 80%, leaving not much room for large dividend hikes.
KO is facing the same challenges. Moreover their FCF payout seems to be even more under pressure than in PEP’s case. In 2017 and 2018 KO’s payout was higher than its free cash flow. Growth is highly appreciated here in order not to threaten the outstanding record of 57 consecutive dividend increases.
What is my personal takeaway message from these two examples of slowing dividend growth? Let me first tell you what I’m not going to do: namely panic and sell my KO and PEP holdings. Both of them are mature high-quality businesses that have managed to overcome many obstacles during the past decades. I will continue to hold them and enjoy the relatively high yield. Besides that I will diversify my portfolio by buying stocks that offer a positive revenue trend and a healthy FCF payout ratio. One of the potential buy candidates that crosses my mind is Home Depot (HD). HD looks very appealing on that score. Furthermore HD has hiked its dividend by 32% lately. So it’s really not all doom and gloom when it comes to dividend growth investing.
Dividend Income: February 2019
Actually, the opposite it the case. The future is bright for those who continue to collect high-quality dividend stocks. We get reminded about it every single month when putting together the dividend income report. It is almost guaranteed that there will be a decent growth rate compared to the same period last year. For me, it is the highest form of motivation to keep doing what I’m doing.
In February 2019, six companies have provided me with a dividend payment:
- General Mills (GIS): €13.03
- AT&T (T): €30.16
- General Dynamics (GD): €7.65
- Texas Instruments (TXN): €10.38
- AbbVie (ABBV): €17.70
- Starbucks (SBUX): €10.77
The monthly dividend income sums up to €89.69 ($102.70) in total. That’s a more than decent year-over-year growth of 62%. Thank you my dear holdings!
|Total||€ 187.67||€ 1,163.80|
|January||€ 97.98||€ 25.26||+ 288%|
|February||€ 89.69||€ 55.35||+ 62%|
Below I’ve added some charts that visualize the dividend development compared to the previous year.
It looks good so far. In the first two months my accumulated dividend income is €107 ($122) higher than in the same period last year. That represents a growth rate of 133%. Taking these figures into account, I definitely feel that my target of €1,650 ($1,890) in annual dividend income is not out of reach.
The current projected dividend for 2019 is sitting somewhere at €1.350 ($1.545). I have pooled a bit of cash that is waiting to be invested into some appealing dividend growth stocks. In the end of the day, I want the green bars to outreach the blue line and eventually hit my annual dividend target.
Wrapping things up
I’m not worried about the slowing dividend trend. Sure, it can be frustrating to see low single-digit growth rates. But we also have to accept that these companies, while searching for ways to accelerate growth, are simply adapting to the current environment. Businesses like PEP and KO have many times proven to be good in overcoming challenges. Otherwise they wouldn’t be able to show such an impressive dividend track record. I don’t mind to wait untill it happens and enjoy a decent yield in the meantime.
Additionally it makes sense to have a mix of different types of holdings. That is why I’m invested in Starbucks (SBUX), Visa (V) or Home Depot (HD). These stocks usually have a much lower yield. However they also tend to grow the dividend by strong percentages. Personally, I feel good buying and holding such names although their income contribution is significantly low. Firstly, they diversify my portfolio very well. Secondly, thinking long-term, the good growth prospects and tons of available free cash flow will support strong dividend growth in the years to come. All I have to do is to be patient.