Dividend Growth and Why it is Important

At Chatham we endeavor to construct high quality, well diversified portfolios. A key component of this process is our focus on high quality stocks/ETFs that can generate attractive returns from both capital appreciation AND dividend growth.

What is Dividend Growth?

Dividend growth is the practice of companies increasing their dividend payments to shareholders over time. In this article, we'll explore why dividend growth is important for stocks and how it can be a valuable component of a well-rounded investment strategy.

Consistent Income Stream

One of the primary advantages of investing in dividend growth stocks is the consistent income stream they provide. Unlike non-dividend-paying stocks, which may offer no immediate return on investment, dividend-paying stocks deliver regular cash payments to their shareholders. This income can be particularly valuable for income-oriented investors, retirees, or those looking to supplement their earnings. Dividends from stocks tend to be more stable than stock prices, as company managements are typically reluctant to reduce dividends.

Inflation Protection

Inflation erodes the purchasing power of money over time, making it essential to invest in assets that can keep up with rising prices. Dividend growth stocks tend to do just that. As companies increase their dividend payments, investors not only receive a growing income stream but also a hedge against inflation. Dividend growth often outpaces inflation, helping to maintain the real value of your investments.

Compounding Returns

Dividend growth stocks offer a powerful advantage known as the compounding effect. When you reinvest dividends to buy more shares of the same stock or other investments, you benefit from the compounding of your returns. Over time, this can lead to substantial wealth accumulation. Compounding can exponentially increase your total return, especially if you're a long-term investor.

Quality Companies

Companies that consistently increase their dividends are typically well-established, financially stable, and have a history of strong performance. This commitment to rewarding shareholders with growing dividends suggests that they are well-managed and have a sustainable business model. Investing in such quality companies reduces the risk of significant capital losses.

Shareholder-Friendly Management

Companies that prioritize dividend growth often have shareholder-friendly management teams. They understand the importance of delivering value to their investors, which can translate into better corporate governance and strategic decision-making. Shareholder-friendly management is more likely to make decisions that are in the best interest of long-term investors.

Total Return Potential

While dividend growth stocks are often associated with income, they can also offer substantial total return potential. Total return encompasses both capital appreciation and dividend income. Over time, the combination of increasing dividends and stock price appreciation can lead to attractive total returns, making dividend growth stocks an attractive option for growth-oriented investors as well. The chart below demonstrates that dividends contribute approximately 43% to the long-term total return of the stock market.

Lower Volatility

Dividend growth stocks tend to exhibit lower price volatility compared to non-dividend-paying stocks or those with inconsistent dividend policies. This lower volatility can make for a smoother and less stressful investment experience, which is particularly valuable during market downturns.

Conclusion

Dividend growth is a vital component of a well-rounded investment strategy, offering a consistent income stream, inflation protection, and compounding returns. By investing in companies with a history of increasing dividends, you not only secure a reliable source of income but also position yourself to benefit from the growth potential and stability of quality companies. Whether you're an income-focused investor or seeking to balance your portfolio with steady returns, dividend growth stocks can play a crucial role in your investment success.