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Dividend Growth Investing in the Age of COVID-19

All investment strategies come with their benefits and their risks. Balancing all of the factors and taking them in the context of an investor’s emotional profile is important when deciding how to go about growing one’s money.

The thing about investing is that for the most part, the markets are rather mundane. A half a percent here or there, up or down, constitutes your typical trading session. There usually isn’t much to see. Every now and then, however, something comes along that really shakes the foundations of the stock market, sending investors for a tailspin.

Today I’d like to take a look at how the current COVID-19 pandemic is impacting the dividend growth investing model, using examples from my own portfolio to paint the picture.

Dividend Growth Investing Strategy

When it comes to dividend growth investing, the strategy is rather straightforward. You save up some money and then invest in a high quality company with a durable business model and a history of increasing its dividend each year. Each dividend payment then gets reinvested and the magic of compounding leads to positive results. After you’ve done that, you rinse and repeat by putting together another stack of cash and buying another company (or investing back into the original one, hopefully at a reasonable valuation).

The strategy is simple to understand and can be incredibly effective. There are plenty of success stories. For my part, I’ve been at this since 2009 and, from a standing start ten years prior, closed out 2019 with just over $5,400 in passive income. That’s money that I didn’t need to get up in the morning to go out and earn—it was sent to me just for being a shareholder of certain companies.

Risks to Dividend Sustainability

Still, there’s no entirely free lunch out there. There is no guarantee that a company will be able to continue paying its dividend to shareholders, much less increase it like clockwork year after year.

Business models change, consumer sentiment changes, and technology has never been reshaping our lives faster than it is now. As the business landscape morphs, companies need to adapt or they can rapidly be upended.

As one example of how a company can fall from grace when it fails to adapt, consider the Eastman Kodak Company, or Kodak (KODK). Its history dates back as far as 1888 and was synonymous with the entire photography industry. Going back to the mid-to-late 1970s, the company held a 90% market share of film sales and 85% for camera sales within the United States. As digital cameras gained in popularity and competition intensified, the company was pushed to file for Chapter 11 bankruptcy protection in January 2012. It has since emerged from bankruptcy, but is no longer the untouchable behemoth it was in days past.

These sorts of events are exactly what we try to avoid with investing. Part of the game involves looking over the horizon, as best as we might, to see the changes before they get here and to determine which dividends might be at risk.

Recent Developments — Of COVID-19 and Oil

Going back to 2009, the market has been on a very strong bull run. It came out of the Great Recession and never seemed to look back along the way. The past few months have bucked that trend harder than most people might have predicted.

When I heard the first reports of a strange virus leading to mass quarantines in Wuhan, China, I didn’t think much of what that might ultimately mean. We’ve seen these sorts of things before in our lifetime with SARS, H1N1, and others. They lead to some disruption and then they go away, or at least that’s how it is supposed to work. This time was different.

By mid-February it became evident that there were likely to be broader global impacts extending far beyond China and Europe. Still, it would have been hard to foresee just how serious this was going to be. When the global lockdowns really started to be implemented, the market responded in kind. Suffice it to say, the developments were not well-received.

Here’s a graph of the mayhem as experienced by the Toronto Stock Exchange and S&P 500 from the start of January to the present day:

Source: Yahoo! Finance

You might notice that huge cliff in late February, with plenty of razor-blade-looking edges on the way down to the bottom. All-time volatility records were set through March as we were treated to double digit percentage changes both going up and down on a daily basis, at times.

This is not the result specifically of investors’ fears over the dangers of COVID-19, but rather the not-knowing associated with a forced, protracted economic shutdown. If there’s one thing the market hates the most, it is uncertainty. A known positive or a known negative can be managed, but the prospect of going months or longer with no end in sight to the troubles has been the real issue.

At the same time as COVID-19 was claiming thousands of lives and disrupting global economies, a price war in the oil markets was taking place between Saudi Arabia and Russia. Records were set in this domain as well, as there was a brief period where oil was trading as low as -$40, the lowest level on record at the New York Mercantile Exchange in its history. With oil continuing to be pumped and the world on lockdown, the issue of where to actually store the oil became pronounced. At the time of writing, this remains a concern in the oil industry.

The Impact on Dividends

Dividend payments represent one method of rewarding shareholders for remaining on board with a given company. While not all companies pay a dividend, those that do tend to hate cutting the payout once it has been established. First of all, shareholders take to that sort of news with vitriol. Beyond that, it simply looks bad. Dividends send signals to investors—a raised dividend indicates strength while a slashed dividend implies vulnerability.

To assess the impact within my own portfolio, let’s review some of the recent dividend news I’ve received, starting with the sort I like to hear.

Dividend Increases

While there have been times I have bought stocks for speculative reasons, the hallmark of what I look for with my investments is the ability of a company to both pay and increase its dividend through thick and thin. I don’t want to worry about the booms and the busts of the economic roller coaster, so I avoid cyclical industries which are prone to periodic ups and downs.

Since the market’s shakeout in March, I’ve had some good news trickling in from companies I own. Two examples are as follows.

Back on April 14, Johnson & Johnson (JNJ) lifted its dividend payout from $0.95 to $1.01 per share quarterly, amounting to a 6.32% dividend boost. Given the current operating environment, I was actually surprised the increase this year was larger than last. I was expecting a token raise just to keep their storied dividend increase track record intact.

Since I purchased the company back in 2010, JNJ has rewarded me with dividend increases each year along the way:

YearDividend Increase (%)
20115.60
20127.02
20138.20
20146.06
20157.14
20166.67
20175.00
20187.14
20195.56
20206.32

It’s worth pointing out that this year’s increase is actually the 58th consecutive annual dividend increase by JNJ. So, for nearly twice as long as I’ve been alive, they’ve been sending extra money to shareholders each year.

My next dividend increase was announced by Hydro One Limited (H) on May 8. This increase sees H’s quarterly dividend moving from $0.2415 to $0.2536, clocking in at a 5.01% bump. H has been increasing its dividend ~4.5-5% per year and that is just how I like it with this solid, Ontario-based utility.

In considering these two companies, it is quite easy to understand why they have managed to boost their payments each year. Both companies provide services that customers cannot go without.

JNJ operates across three business segments including medical devices and diagnostics, pharmaceuticals, and consumer products. When you consider their brand names such as Listerine, BAND-AID, and Tylenol, those are the sorts of products that come with high consumer loyalty—people are likely to stick with what works.

In terms of H, the company provides electrical transmission and distribution to residential, small business, commercial, and industrial customers. This vital service is one that people absolutely need. No matter what is going on in the world, electricity is one of the last things people will be willing to cut.

Dividend Suspensions or Cuts

Through my investing lifetime of just over a decade, I have had remarkably few dividend cuts or suspensions. Part of that might be chalked up to good fortune, but I believe it is mostly a result of my emphasis on sticking to the best companies in their respective lines of business.

The pandemic we’re currently experiencing, however, has led to a number of companies I own foregoing their payments to shareholders. In each case, their rationale has been rather straightforward; they would like to bolster their balance sheets while awaiting an uptick in business.

Here’s what I’ve experienced thus far:

  • A&W Revenue Royalties Income Fund (AW.UN) decided to temporarily suspend distributions due to the uncertainty related to COVID-19.
  • The Walt Disney Company (DIS) announced it would skip the July dividend in order to preserve ~$1.6 billion in cash.
  • Yum China Holdings, Inc. (YUMC) made the decision to skip its dividend payments at least for the next two quarters, despite insisting that its balance sheet remains strong.

While these moves are likely the right moves for the companies at this time, it still doesn’t change the fact that this has a detrimental impact to income investors.

Just for the purposes of illustration, assuming these cuts were to last for an entire year (which they may or may not), the hit to my portfolio would be C$76.32 from AW.UN, U$17.60 from DIS, and U$18.72 from YUMC. In aggregate, this would represent a currency-neutral reduction of $112.64 across an entire year. Again, things may well go back to normal for one or each of these companies before that, but I wanted to demonstrate the impact in real terms.

One thing I’ve learned along the way is to not try to keep second-guessing with stocks. Rampant buying and selling leads to poor returns. Looking at the three hits to my portfolio just described, I still don’t feel there is a need to sell the companies. These issues are not the result of poor management or poor planning. I fundamentally believe my investment thesis remains intact for each of them.

People will eventually resume their eating habits at businesses owned by AW.UN and YUMC. Likewise, I believe people will make their way back to DIS theme parks and continue consuming their content, whether through the direct-to-consumer Disney+ platform or in theatres. On that basis, I currently intend to remain on board, and hopefully for the very long term.

My Assessment and Expectations

The good news to this stage is that the increases in my portfolio have come from those companies paying me higher amounts of income, while the suspensions have been from those representing a smaller weighting within my portfolio. So, the actual impact of these changes shouldn’t amount to any serious damage when considering my overall passive income received.

My expectation is that we will see much lower dividend increases as we move forward over the next period. Companies are conserving their capital and making sure they have enough on hand to weather this pandemic-driven storm. The last thing any company wants to do is increase its dividend, only to need to pull it back shortly thereafter. That’s the sort of thing that gets management relieved of their command.

Given how low interest rates are, I expect to see companies continuing to raise debt in order to finance their obligations. Looking to a future where lockdowns have been lifted and companies can go back to business as usual (or at least some degree of normalcy), it can make sense to raise capital for virtually nothing in order to bridge this period, continue paying out dividends to shareholders, and then pay back the debt over the years to come.

As far as whether my portfolio will see further dividend cuts or suspensions, all I can say is that I wouldn’t be shocked. Taken in aggregate, though, I do expect my income to increase this year. That’s the nature of having built a portfolio of high quality companies. If all it takes is a few months of lockdown to wreck the portfolio, then it wouldn’t be a robust strategy to begin with.

Concluding Thoughts

This wasn’t the first pandemic and it won’t be the last. The future will always be uncertain. Volatility and change is the way of life. Flux is natural and should be expected. In real terms, there will be more viruses—both biological and technological—which take us by surprise. There will be plenty of uncomfortable events that hit us along the way, which highlights the importance of having a strategy that can stand the test of time.

I believe dividend growth investing is a worthwhile methodology for wealth creation. My portfolio now consists of over 30 cash-flowing equities across many different industries. That provides a very wide base to handle shocks along the way and to continue paying me the increasing cash flow I have come to expect.

The day will come when COVID-19 is in our rear view mirror. I don’t know when that will be and while I don’t know the exact details, I do suspect there will be some lasting outcomes; the working from home revolution, the digitization of cash (i.e., people using contactless payment methods), and even the decrease in physical contact with strangers (i.e., shaking hands as a greeting) are just a few of the trends that have been urged along by the pandemic.

My recommendation is to stay the course. Better days are still ahead, as they always will be. Just remember that the stock market is a vehicle for acquiring real businesses that produce real products used and paid for by real people. The quarantines will not last forever, although it is easy to feel that way for those who have been spending all of their time indoors. Just as the seasons turn to warmer weather, dividends will eventually be restored and raised. The key is stay calm and remain on track.

Full Disclosure: AW.UN, DIS, H, JNJ, YUMC

8 thoughts on “Dividend Growth Investing in the Age of COVID-19

  1. Roger Fox says:

    I am new to investing and receiving dividends. I study all possible ways of investing. My friend says that now is not the time to invest, that dividends will not be paid. I feel insecure … Thank you for sharing this information and your experience!

    1. Hi Roger,

      I’m glad you enjoyed the article. The way I see it, there’s always an opportunity to invest in somewhere, some company. There will always be volatility along the way.

      Take care,
      Ryan

  2. Hi Ryan,

    I hope all is well. This might sound like a stupid question as I have not tried dividend investing yet, I’m just wondering (and I hope this won’t happen), but what if companies, started not paying the dividends? What would be the best backup plan for dividend investors?

    Cheers,
    Alex
    Thrifty Hustler recently posted…Citi PremierMiles Credit Card Review – After 10 Years of UseMy Profile

    1. Hey Alex,

      Well, if all companies stopped paying dividends, the crux of the strategy would effectively be broken. However, when you look at the track record of the high quality companies following this methodology of paying shareholders, I consider that to be an unlikely scenario. Just a few examples —

      1. BNS has been paying dividends to shareholders since 1832 and increases it most years.
      2. JNJ has increased its dividend for 58 consecutive years.
      3. CU has increased its dividend for 48 consecutive years.

      These companies absolutely do not want to cut those dividends, much less suspend indefinitely. That said, no business is entire immune from disruption. Anything can happen, but I consider these companies best of breed, their dividends notwithstanding. Even if they didn’t pay dividends, I’d still consider them worthy of my portfolio (I’d just have to adjust my way of extracting capital by selling shares, etc.).

      Hope that helps explain my thought process.

      Take care,
      Ryan

      1. Thank Ryan for the response. So that’s what I’ll need to do as well once I start investing. I’ll definitely check out how many years have they been paying dividends. Thanks man!

        Cheers,
        Alex
        Thrifty Hustler recently posted…Citi PremierMiles Credit Card Review – After 10 Years of UseMy Profile

        1. No sweat. Dividend history is definitely one of the metrics I look at; a long track record of increasing the dividend suggests a high level of staying power (i.e., deep moat). Definitely not the end of the story, but it’s a good thing to keep in mind, Alex.

          Take care,
          Ryan

  3. GYM says:

    Great post. Yes, there were some seemingly infallible companies that we would have never thought would go bankrupt (like Kodak).

    At least A&W does takeout and has not been completely disabled or shut down, but traffic must be much lower.

    I was just thinking about my Keg shares today, I don’t have a very large position in Keg, but I wonder how they will emerge from the pandemic. People won’t be going to restaurants to enjoy a nice meal as much anymore for the time being.
    GYM recently posted…Should I Borrow to Invest in a Bear Market?My Profile

    1. I’m glad you enjoyed reading.

      Yeah, I suspect with AW.UN, they were just being prudent and protecting the cash flows. The one in my hometown still seems to have a steady stream of customers through the drive-thru, so they still seem to be making some cash along the way.

      In terms of KEG.UN, I had never really looked into purchasing them (despite loving the restaurant itself). I suspect at some point, long after the quarantine-measures get lifted, that business will go back to normal (hopefully not too much of an impaired “new normal”). People love going out for dinner. I know I’ll definitely be back there. The problem is if they’re forced to do things like remove tables and only allow less diners in the restaurant… I really hope this isn’t the case (or if it is, not for long).

      Ryan

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