Unless you have been living under a rock the last several years, dividend-paying stocks have been all the rage and it is certainly understandable. With the way the Fed has kept rates low we have been hard-pressed to find somewhere to park money and make any decent return. The usual suspects of CDs, bonds, and the like have been giving paltry returns and unless you want to tie your money up for several years, inflation could cause you to lose money on those options.
As a result, investors have been leaping into solid dividend-paying stocks as it’s fairly easy to find stocks that pay at least 3% if not more in the form of dividends. However, a recent — but growing — concern over Fed actions is beginning to cause movement out of these dividend-paying stocks. This begs the question of whether or not giving up on dividend-paying stocks is the right thing to do.
Dividend-Paying Stocks Provided a “Safe” Haven
Left with nowhere to really place money earmarked specifically for income generation, many investors were left with dividend-paying stocks as the best option. This helped create somewhat of a herd mentality as many were flocking to dividend stocks in order to meet that need for production. When looking at the landscape of dividend-paying stocks it is understandable, on one level, why many investors would choose to go that route.
With the various sectors that generally produce dividend payers ranging from defensive stocks to telecommunications to utilities, you can generally find some reputable stocks that will help you see that income production — without necessarily taking on a lot of risk like you would with that of a tech stock, generally speaking.
However, as we are seeing somewhat of a changing landscape in the market, the perceived “safety” found in these high dividend-paying stocks is waning as many take a significant hit on them. As JT wrote last week, this is not surprising and some of these sectors might be ones that you’d want to consider cutting back on in order to reduce the risk that increased rates might play on the prices of some dividend-paying stocks.
You also might want to read this piece on dividend growth investing for the long term.
What the Change Reflects
As I read in this article from CNN Money last week, the change reflects an evolving investor appetite toward growth-related stocks, as well as other sectors. It basically cited that retail investors are experiencing a change in their risk tolerance toward growth and slightly away from increased income production.
The article went on to state, briefly, that investors have become more optimistic about growth prospects in the second half of the year and that a lot of growth seems to be occurring in the big bank area . . . think stocks like Bank of America (BAC), Goldman Sachs (GS), and JP Morgan (JPM).
The argument is that the rising rates will make it more beneficial for the big banks to loan to consumers and thus become more profitable, though I do not necessarily think consumers will be flocking to borrow at increased rates. That said, I do think there is potential in the banking sector looking at the amount of cash many have been sitting on and they will at some point start acting to improve their profitability.
Ultimately, this movement out of dividend-paying stocks is indicative of a growing concern over what the Fed’s actions, or inactions, might have on the market as a whole. All that to say, I do not believe one bit that investors need to shy away from dividend-paying stocks, but rather should be mindful about what role increased rates might have on them. They should also be on the lookout for other possibilities if income production is still of importance to them. As JT pointed out last week, there are still viable options out there in terms of dividends, though you’ll want to be leery of utility or REIT stocks as they have been taking a significant hit over the last few weeks.
The Need to Take Action
It can be easy to see the outflow of money from solid dividend-paying stocks and want to jump ship. That is perfectly understandable as some sectors are down as much as 5% or 6% over the last month. I hate to lose money in the stock market and will do anything I can to avoid it.
That said, you should only take action if that fits in with your overall investment plan and your goals. This requires you to stay on top of your investments and be mindful of what is going on in the news without allowing your emotions to get the best of you and make an investing decision you would not make otherwise. Also, this is as good a time as any to take inventory of your risk tolerance and balance that against what is going on in the stock market.
As I wrote last month in “The Problem Behind Sell in May and Go Away,” it can be easy to become swept up in the talk and follow what the herd is doing without giving much thought to it. When you invest in stocks it can be easy to allow emotions to get the best of you and that is why having a long-term view of your investing is vital.
While I would generally stay away from utilities or REITs right now, I know that the decline will not last forever which will create a buying opportunity at some point where you can go in and buy shares at a discounted price to hopefully ride back up. Ultimately, this outflow from dividend-paying stocks and the recent down days in the stock market point us to the need to be able to balance taking action with our portfolios without also risking our overall long-term investing goals.
What is your take on the outflow from dividend-paying stocks? Are you sitting firm, bailing out, or looking for an opportunity to get in at a discounted price?
Editor’s Note: This article contains a lot of time-sensitive material. Be sure to seek the advice of a financial advisor for current market analysis and advice.
John Schmoll is the founder of Frugal Rules, a Dad, husband and veteran of the financial services industry. He’s passionate about helping people learn how to make wise investing decisions so they can prepare for their futures and avoid the mistakes that he and so many others have made.