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Market Wrap-up For May 20 - The Need for Yield

Many may have seen the news this morning that Goldman Sachs analysts made a big prediction for the market in 2015.

In its most recent US Weekly Kickstart Portfolio Strategy Research publication, Goldman declared dividends and share buybacks to be the largest contributor to total return in 2015. The firm’s Chief U.S. Equity Strategist, David Kostin, boldly stated:

“Dividend yield will be the sole contributor to total return during the next 12 months.”

Touching Historic Valuations

Kostin explained that he does not expect much contribution from capital appreciation, based on the sole fact that price earnings multiples are reaching historic valuation levels, limiting the scope for further upward expansion. Currently, the median S&P 500 stock is trading at 18.2 times its earnings, placing it in the 99th percentile of historical valuations. Goldman expects the S&P 500 to rise to about 2,150 by June, then forecasts a drop to 2,100 by the end of 2015.

The Dividend Forecast

Goldman forecasts S&P 500 companies paying roughly $1 trillion to shareholders via dividends and buybacks in 2015, marking a 7% increase year-over-year. More specifically, companies are expected to pay $400 billion in dividends. Over the next two years, the median S&P 500 stock is expected to increase its dividend by 8% – though with record cash levels, some firms may increase payouts at a faster rate. To put things into perspective, Goldman expects dividends to account for 46% of market returns over the next 10 years.

Given the rather bleak earnings forecasts seen throughout the most recent earnings season, Goldman, along with many analysts, are now focusing on those companies with large cash piles and a track record of growing dividends. More than likely, dividend yields will become even more prevalent in the near future, as the prospects for capital appreciation remain bleak.

Dividend Appreciation vs. Dividend Yield

While some may turn to the highest yielding stocks in an effort to position themselves for the year ahead, we caution investors to avoid this strategy, as these investment decisions may turn out to be Dividend Value Traps.

Instead of focusing solely on yield, the most promising investments are likely those that fall into the category of Dividend Acheivers. These companies have increased dividends on a consistent basis for a number of years and are typically considered to be well-managed and stable.

While dividend growth will be key in the near future, it is important to realize that there are some drawbacks to relying exclusively on dividend histories. Companies with a history of raising dividends are constantly pressured to keep up those raises as time goes on. In some cases, this pressure can lead to riskier habits in order to meet investor demand.

To avoid this risk, we encourage investors to look for companies that have relatively large cash reserves on their balance sheets. Excess cash can serve as a much-needed cushion for companies experiencing slower or contracting growth in the months ahead.

Be sure to check out our full list of 10-year and 25-year Dividend Increasing Stocks.

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