Stocks are losing a big edge over bonds
Big dividends have made some stocks attractive to investors for years. But the rally in Treasury yields is starting to take away the large and lucrative edge of some equities.
A quarter of the stocks in the Standard & Poor’s 500, including several banks such as Region Financial (RF) and Fifth Third (FITB) but also technology company NetApp (NTAP), have seen their dividend yields shrivel below the rate of the 10-year Treasury after topping the benchmark rate in July. The days of Treasury-beating dividend yields — a much-needed source of additional income for many investors — are slipping away as interest rates have risen since the election of Donald Trump.
Just 194 companies pay dividend yields that top the 2.22% yield on 10-year Treasuries. That’s a dramatic decline from just months ago when dividends were golden on Wall Street as investors frustrated with persistently low interest rates looked for income. More than 320 stocks in the Standard & Poor’s 500 were paying dividend yields that exceeded the 1.37% yield of the 10-year Treasury when the government borrowing rate bottomed in July.
“If yields have finally bottomed and are headed higher during the balance of this recovery, stock investors need to consider how internal leadership may be altered,” James Paulsen, chief investment officer at Wells Capital Management, says in a note to clients.
The big rally in Treasury yields since the election has changed the math on the relative attractiveness of stock dividends. All of a sudden, investors might not be pushed into owning stocks just to get the dividends. Meanwhile, the rally in stock prices has pushed down dividend yields, making them even less lucrative relative to the risk that’s required to collect them. The dividend yield on the SPDR S&P 500 has dropped to 1.9%, down from the 2.3% yield in February.
Some of the reversals to yields relative to bond yields are head-turning. The biggest drops in yields relative to Treasury rates is in banks. The sector’s dividend yield hit a better-than-average 2.3% prior to the election, based on the Financial Select SPDR Fund. But thanks to a big rally in bank stocks, the dividend yield of the group has declined to below 2%.
Take Regions Financial, which was yielding a lucrative 2.9% in July when the 10-year Treasury was at 1.4%. That means investors collected 1.5 percentage points more in dividends from the bank than they would have from owning 10-year government debt. But that formula has completely changed now, with Regions yielding just 1.9% after a 34% jump in its stock price this year. That trails the yield of the 10-year. It’s a similar story at Fifth Third. The Cincinnati-based bank was paying investors 3% as a dividend yield in July, but that has since fallen to 2.1%.
Banks are the best example of the eroding lure of dividends but not the only ones. NetApp, a computer storage maker, has seen its yield drop to 2.1% as the stock jumped 31% this year. That’s a change from just a few months ago, when investors were getting a 2.9% yield on the stock.
Some investors may decide the possible stock market gains of dividend paying stocks are still worth the extra risk. But for those who would rather cling to safety, they might finally have an alternative: bonds.