The backdrop

In a period of extraordinary optimism centering on the capital gains delivered by artificial intelligence (AI), it’s important to remember that dividends have always been a critical component of total returns. The longer you invest, the more important dividends become and looking back on the last few decades, around 55% of market returns since 1987 to the end of 2023 are from reinvested dividends. 

Global equities are now on the cusp of a remarkable period of dividend growth, with not just a cyclical upswing in payouts, but structurally higher dividend momentum. Over the last 20 years, global dividend per share have grown at 5.6% annual rate but looking forward, our analysts forecast this to accelerate to 7.6%. 

The primary driver for this accelerated dividend growth is the low starting point for payout ratios (dividends as a proportion of earnings). In 2020, during the Covid pandemic, we saw an unprecedented number of companies cut their dividends. In fact, global dividends fell by 12% that year, a sharper decline than even during the Global Financial Crisis. This was, of course, a perfectly rational response in the face of an extraordinary environment with unknown impact and duration.

We all know the story since. Equity markets came roaring back as global earnings exploded, driven by Big Tech and, more recently, AI. Given dividends are determined by cautious boards and management teams, they tend to lag earnings during these big earnings booms. As a result, dividend payout ratios are now close to 25 year lows. In other words, companies are underpaying relative to history. Just returning back to a more normal level of payout provides an additional 2% year of growth over five years. This isn’t just hypothetical, the payout recovery story is already starting to play out with global dividend growth outpacing earnings growth in seven of the last eight quarters.

Dividend investing universe is expanding - Big tech is coming of age

While much of the recent market returns have been driven by a handful of non-dividend paying companies, things are changing. In 2024, Meta Platforms’ CFO unexpectedly announced the company’s first ever dividend payout and talked about the importance of returning capital to shareholders and dividends serving as a strong complement to share buybacks. Subsequently Alphabet also initiated its first ever dividend, making it the fourth company in the now historic Magnificent 7 to reward shareholders with income. Finally, the world’s biggest AI CRM giant, Salesforce joined the bandwagon and declared a quarterly cash dividend in the second quarter of 2024.

While dividend yields from tech stocks are initially modest, the absolute expenditure is significant at a whopping $17bn* from these three companies alone over the next one year. Moreover, the signal provided by these actions is profound.

*Source: Bloomberg, as of June 2024.

Dividends from nominal corporate cashflows act as an inflation hedge

Although global central banks are now in rate cutting mode, the nominal yields on offer from cash and bonds continue to exceed most dividend indices.

But it’s always critical to remember that the real yields on offer are less generous. Fixed income is fixed and the purchasing power of those yields is eroded by inflation. Meanwhile dividends preserve pricing power as they grow in line with nominal corporate cashflows. Dividend income is inflation hedged income.

While central banks may have tamed inflation for now, an era of fiscal expansionism, shrinking workforces and onshoring likely mean we don’t return to the post-2008 era of ultra-low price growth. Dividend income hedges investors against upside surprise here.

Capitalising on the opportunity in dividend stocks in the JPM Global Equity Income Strategy

These are companies with a strong track record of growing dividends over time, and a willingness to continue on this trajectory supported by underlying earnings growth. Compounders also offer a robust platform for alpha generation for the portfolio.

One such example is Shin-Etsu. It is not just at the epicentre of the AI growth story (manufactures silicon wafers that go into chips), but also Japan’s corporate governance reform narrative. It is in the compounder category of stocks with a yield of 2% (very similar to MSCI World or MSCI ACWI) and the dividend growth potential is compelling as AI demand continues on the upswing, leading to very strong earnings per share growth. 

The securities above are shown for illustrative purposes only. Their inclusion should not be interpreted as a recommendation to buy or sell.

Even though Compounders have lagged MSCI World recently amid the AI beneficiaries’ (Mag7) bull run, they continue to outperform cycle-to-cycle, especially when you adjust for underlying risk.

Current valuations have created an attractive entry point

Critically, today we don’t have to pay a premium to access these favourable characteristics. Market concentration and AI hype have resulted in unusually depressed relative valuations levels for the dividend-paying stocks. This presents investors with an opportunity to enter an attractive long-term trend to capture income and growth by exposing themselves to companies with strong business models and steadily growing dividends. Historically, the category has offered investors favourable downside characteristics and could be a prudent way to add defence and diversification into equity allocations.

Source: J.P. Morgan Asset Management, as of 30 September 2024. “Higher Yielders” refers to top 2 quintiles of MSCI World Index by consensus fiscal year 1 dividend yield. P/E refers to fiscal year 1 consensus price to earnings multiple.

We don’t believe that a portfolio which can offer superior dividend yield, dividend growth and dividend resiliency characteristics should ever fall out of fashion. Even without revaluation, the balance of income and income growth alone within the portfolio supports forecasted nominal gross returns of over 10% every year.