How dividends can double stock market returns

When it comes to dividend payments, the UK has a strong heritage: not only are our companies committed to paying them, but investors also understand their importance.
And we've recently a great example of their power.

How a stock market can double in value – without moving

The FTSE 100, the index of our 100 largest companies, ended 2018 at 6,728 – some 200 points off the level it ended 1999. Cue headlines such as “UK stock market loses all 21st century gains”.

And the headline is right. While the stock market has recovered ever so slightly so far in 2019, if you had invested £250 at the turn of the millennium, it would be worth £257* pounds today.

However, a better headline I saw recently was “The FTSE 100 doubles… without even moving.” This headline is also correct. If you had reinvested the dividends paid by the FTSE 100 companies in that time, your pot of money would have doubled to £502**. That's the power of reinvesting dividends.

This difference between price returns and total returns (when dividends are reinvested), can be seen across the globe. From Europe to Asia, the US to Japan, the story holds true.

Dividend opportunities in Japan

Japanese equity returns are also almost entirely down to reinvested dividends so far this millennium (5.79%* compared with 44.42%8*) – quite a feat for a country that has, until recently, not been known for rewarding shareholders in this way.

However, thanks to Prime Minister Abe this is starting to change and Japanese dividends are looking more interesting.

Shinzo Abe was elected Prime Minister in December 2012 and launched his extraordinary stimulus programme dubbed 'Abenomics'.

One of the main aims of Abenomics has been to encourage Japanese companies to stop hoarding cash (a habit that started in the 1990s when the Japanese equity bubble burst and banks stopped lending money) and either reinvest the money or give it back to shareholders.

Attitudes have started to change and, although income payments are starting from a low base, dividend payments have been steadily increasing over the past few years.

Karen See, manager of Baillie Gifford Japanese Income Growth fund, believes that a reforming Japan now presents a unique proposition for income investors.

“For a long time, many global income hunters have excluded Japan from their income-generating strategies, due to the low income yielding nature of many Japanese businesses,” she said. “Only 8% of the top 1,200 companies had an explicit dividend target in 2004. In 2016 this figure had risen to 43%.

“Over half of Japanese listed companies have a net cash position, compared to around 21% in the US, so there is plenty of room for companies to return cash to shareholders without impeding their growth efforts.

“With dividend payments starting to rise, we should begin to see a more sustainable stream of income from Japan,” Karen concluded.

Past performance is not a reliable guide to future returns. You may not get back the amount originally invested, and tax rules can change over time. Darius's views are his own and do not constitute financial advice.

*Source: FE Analytics, price returns in sterling, 31 December 1999 to 12 February 2019
**Source: FE Analytics, total returns in sterling (dividends reinvested), 31 December 1999 to 12 February 2019

Published on 13/02/2019