GE's gutted payout is the latest blow to dividend investing as companies favor buybacks

  • Dividends are one of two big ways companies reward investors. Over the last 90 years, dividends accounted for half the total return, along with price appreciation, for U.S. stocks.
  • But in recent years, the share buyback has overtaken the dividend as the CEO's payout of choice.
  • The dollar amount of dividend payments has only increased 14.7 percent through the third quarter while the dollar value of buybacks has increased 43 percent through the second quarter, according to the S&P data.

It's getting tougher for investors who depend on stocks for income.

General Electric, the aging industrial giant that used to be one of the biggest dividend payers around, said Tuesday it would slash its quarterly cash payout to 1 cent a share. The savings can be put back into the business as new Chairman and CEO Larry Culp tries to revive its ailing operations.

A dividend cut is often seen as a drastic action by a company struggling with cash flow. Big banks were forced to cut their payouts a decade ago to preserve capital so they could get through the financial crisis. GE already cut its dividend once last November.

Dividends are one of two big ways companies reward investors. But in recent years, the share buyback has overtaken the dividend as the CEO's payout of choice, largely because it is more flexible, says S&P Dow Jones Indices' Howard Silverblatt.

A dividend is both a promise and an expectation. "The last to go and the last to come back," Silverblatt said, as companies forced to cut their dividends are doing so because they have few options left. A buyback, on the other hand, is a "win win" for companies and shareholders. It can be turned off and on at will, the stock usually bounces when one is announced and a big enough buyback can reduce a company's share count, boosting EPS.

While dividend payments reached a record $115 billion in the third quarter, the dividend yield has steadily fallen to 1.8 percent from 2.15 percent two years ago as buybacks have gained favor, according to S&P.

S&P 500 companies have bought back nearly $900 billion of their own shares since the beginning of 2017, including a record $190.6 billion in the second quarter, for a yield of 2.8 percent.

Granted, the market value of the S&P 500 is up 21 percent since the beginning of 2017 through the third quarter, so dividend payouts have become less significant relative to investors' total return.

Buybacks up 43%

And the trend over that time shows a clear preference for buybacks. The dollar amount of dividend payments has only increased 14.7 percent while the dollar value of buybacks has surged 43 percent through the second quarter, according to the S&P data. Corporate earnings are up 32 percent in the same period. The buyback and earnings data for the third quarter aren't complete yet.

And an increasing number of companies are using buybacks to cut their share counts, Silverblatt, S&P's senior index analyst, noted. Some 21 percent of companies that have reported third quarter results so far have cut their share counts by at least 4 percent, up from 15.6 percent in the second quarter and 14.2 percent in last year's third quarter.

The strategy of investing in stocks for the dividend is a tactic deployed for a long time by classic value investors. None other than Berkshire Hathaway's Warren Buffett has doubled down on dividend paying stocks in recent years. Berkshire's sizable stake in Apple will bring in about $700 million in annual dividends. The conglomerate also owns cash-generating stakes in Wells Fargo, Coca-Cola and Kraft Heinz.

But as seen in the case of GE, dividend investing can carry risks. Companies that pay dividends, tending to be industrial or consumer-product oriented, often lag the performance of high-growth companies in sectors like emerging technology. And losing most of a once-reliable source of income is enough to make investors dump the stock. Shares of GE tumbled 10 percent on Tuesday. They had already fallen nearly 38 percent as of Monday's closing price.

After two dividend cuts in a year, "If you were still in GE, you had a lot of faith in the company," Silverblatt said.

It may be time for the pendulum to swing back in favor of dividend investing as share price increases in hot tech sectors slow. Over the last 10 years, the S&P 500 has returned 12.9 percent annually and dividends added only 2.4 percentage points to that total return.

But over the last 90 years, dividend investing accounted for nearly half of the 10 percent annual total return from stocks, according to FactSet data.