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Background: The S&P 500 is an index that has consistently grown across many decades. On the other hand, since the 1940s, the dividend yield has been decreasing. It used to be around 6%, while in recent years, it has been around 1.5%.

Question: Why is the growth of the value of dividends significantly lower than the growth of the value of stocks in the S&P 500?

Sources:

Nosjack
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Tomek Tarczynski
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    Your 2nd link provides 2 possible reasons for that (after "Two significant changes contributed to the collapse of dividend yields."). Both look convincing. Do you want us to list other possible reasons? – Solarflare Dec 10 '23 at 12:37
  • @Solarflare: The first reason, the one about the cheap money, is somewhat convincing. However, the second one raises another question: why are internet companies inherently growth-oriented, and why were the others not? – Tomek Tarczynski Dec 10 '23 at 14:39
  • The yield measures the payout vs the stock price, it would be interesting to compare the payout vs the earnings or revenue from then vs now. P/E is certainly much higher these days which would account for a chunk of the yield difference. – rtaft Dec 13 '23 at 14:04

2 Answers2

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Stock buybacks are an alternative way of returning money to shareholders that is being used instead of dividends. Some reasons to prefer buybacks are:

  • Each shareholder can choose when to realize income. For example, young investors earning a salary can avoid adding to their income.

  • Minimizes unnecessarily moving in/out of positions. A dividend is an automatic, periodic cash-out. If the investor does not need the money, they have to log in and buy more stock, potentially paying transaction fees and spending time out of the market for no reason.

  • Governance. Dividends are sticky and hard to change because investors expect them to be recurring. The market reacts strongly to dividend changes. This creates bad incentives for management and can lead to, for example, companies continuing to pay a dividend even when they need the money elsewhere (and then taking out expensive loans to cover the gap). Or conversely, companies sitting on a slowly growing pile of unneeded cash because management is afraid to increase the dividend (since it is seen hard to reverse).

Fadeway
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    Perfect! Buybacks were the piece that I was missing. Companies have switched heavily to buyback instead of dividends. SInce around 2004, companies are spending more on buybacks than dividends. Source: https://www.prnewswire.com/news-releases/sp-500-q2-2023-buybacks-decline-18-8-as-sector-expenditures-shift-again-buyback-tax-reduced-operating-earnings-by-0-34-301924762.html – Tomek Tarczynski Dec 11 '23 at 12:59
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    #2 is usually solved with dividend reinvestment plans. Many (most?) dividend-paying companies provide this option. – Barmar Dec 11 '23 at 16:23
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    @Barmar The tax consequences of a dividend being reinvested are the same as if you took the dividend and bought the stock. – Chuu Dec 11 '23 at 17:04
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    @Chuu Yes, but the second bullet doesn't say anything about taxes. It talks about the work of making the purchase and the transaction fees (which DRPs don't normally charge). – Barmar Dec 11 '23 at 17:30
  • Not sure I agree that this is the only, definitive reason. Certainly there are other correlated factors, such as the growth of tech companies in the S&P that typically pay less dividends (focusing on growth), and the rise in share of retirement plans that do not benefit from dividend tax treatment. – D Stanley Dec 11 '23 at 21:06
  • Chuu's point here is important, and although this answer circled around it, it did not state it explicitly: Dividends are cash payments that are taxed as income. Stock buybacks result in unrealized capital gains, which are taxed only when realized, if at all. Investors prefer to pay taxes later rather than sooner. – Mark Dominus Dec 12 '23 at 16:39
  • This is a fairly decent answer, but the tax implications of dividends aren't really important to the average investor. The tax implications of dividends to high-income individuals are very significant. Company governance is not a one-person, one-vote situation, it's one stock, one vote (or often 1 stock: 0 votes, for certain classes of stock.) Wealthy people who would pay high tax rates on dividends tend to hold a lot more stock than everyone else and therefore have more control over whether stocks pay dividends. – JimmyJames Dec 12 '23 at 16:50
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Why is the growth of the value of dividends significantly lower than the growth of the value of stocks in the S&P 500?

The 500 companies that makeup the index determine if they pay their shareholders dividends, and how much. The index and the fund play no roll in this decision.

In general companies have determined that paying dividends isn't something that their shareholders want and expect. Some companies still pay dividends, and they consider this to be an integral part of their culture. Others have said we can use the money that would have gone to dividends to grow the company.

This lack of dividends was especially true with the rise of tech companies that were founded since the 1970's. They grew the business based on their profits. Sending a portion of their profits to shareholders wasn't part of the plan.

mhoran_psprep
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    Interesting, I always considered mature stocks as assets providing passive income in the form of dividends, while investors would prefer to see the companies grow, which increases their value. Of course, while the company is still in the growth phase, it wouldn't make sense to pay dividends. – Tomek Tarczynski Dec 10 '23 at 14:43
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    Stockholder expectations shifted with the huge influx of new investors when 401k's replaced most pensions. For good or ill (mostly I'll, as it creates perverse incentives for management) many people are now demanding companies grow the stock price as much as possible rather than returning dividends to stockholders. (The rationale seems to be trying to push profits into being capital gains rather than ordinary income, which does not strike me as a good enough reason but I can't outvote the other stockholders). The S&P is just reflecting this change. – keshlam Dec 10 '23 at 15:18
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    Qualifying dividends for lower tax rate (qualified dividends taxed the same as capital gains) was supposed to help reversing the trend, but ended up just reducing taxes on the rich. Tech companies do buy-backs instead of dividends. – littleadv Dec 10 '23 at 17:16
  • @TomekTarczynski: I'm not sure passive income is a good reason to prefer stocks that pay dividends. When a stock pays a dividend, the value of a share instantly drops by the value of the dividend. Ignoring tax implications, an investor shouldn't experience much difference between being paid a $10 dividend vs selling $10 worth of stock. – Brian Dec 11 '23 at 15:05
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    @keshlam It's strange to link that to the rise of 401k plans, since there's no tax difference between dividends and CG when the shares are held in a retirement plan. And I think most 401k's only allow you to invest in mutual funds rather than individual companies (plus the employer's stock if they're public). – Barmar Dec 11 '23 at 16:27
  • In terms of yield, the weighing scheme means it's not really 500 companies. 27% of the index is in Apple, Microsoft, Amazon, NVIDIA, Alphabet and Tesla. 44% is in the top 25. – user71659 Dec 11 '23 at 18:16
  • The death of pensions threw a huge number of people into the stock market. There's a correlation between that change and the shift in emphasis. Causation is harder to prove. – keshlam Dec 11 '23 at 20:52
  • I cannot propose a single-character edit, but "play no roll" should read "play no role" instead. – Karl Knechtel Dec 12 '23 at 10:49
  • @keshlam As barmar points out, how dividends are taxed are largely irrelevant in tax-sheltered accounts. The are very relevant to high income individuals to whom the annual 401K limit wouldn't cover filling their yacht's gas tank. Those individuals also tend to hold the most stock and/or sit on the boards of companies. For this reason, I wish tax policy would be more neutral to dividends versus capital gains. I don't think tax policy should put a finger on the scale in this case and I'm not sure it's even an intended effect. – JimmyJames Dec 12 '23 at 16:58
  • I'm sure it isn't an intended effect. Whether it's a real effect is less clear, methinks. – keshlam Dec 12 '23 at 19:05
  • Consider Warren Buffet. He owns something like 15% of Berkshire Hathaway and famously likes to invest in dividend paying stocks within that company. But BH does not pay a dividend. Now consider the impact on Buffet's personal tax-bill is BH starts paying a dividend. If you were in his shoes, would you choose to massively increase your own tax bill or would you look for other options? – JimmyJames Dec 13 '23 at 16:03
  • All these buybacks have the side effect of eventually causing capital gains tax problems. – Jeremy Boden Dec 13 '23 at 20:12