For dividend investors who’ve been jarred by the pandemic, the new year brings a clean slate and hope for a brighter future.
While many companies that cut their payouts early in the global health crisis have since restored them, returns of consistent dividend payers tended to lag behind those of stocks in hot sectors, such as technology. That dynamic left some veteran equity-income managers with solid, but not market-beating, returns in 2021.
For perspective on the past and possibilities for the future, Barron’s turned to two veteran equity-income practitioners: John Tobin, a managing director and portfolio manager at Epoch Investment Partners, and Tom Huber, a money manager at T. Rowe Price. Both are approaching 2022 with plenty of optimism, various headwinds notwithstanding.
Huber’s Take
After a 2020 that was dominated by tech stocks, gains spread to other sectors last year, notes Huber, the longtime manager of the $22.4 billion T. Rowe Price Dividend Growth Fund (ticker: PRDGX).
But while the best-performing stocks shifted during 2021, with value sometimes outperforming growth, he says that stocks with consistent dividend growth were “in many cases left behind.”
Case in point: The Utilities Select Sector SPDR exchange-traded fund (XLU) returned 17.7% last year, dividends included. That certainly wasn’t a disaster, but it trailed the S&P 500’s return of roughly 28%.
Another laggard—and a popular destination for dividend investors—was the consumer-staples sector, which returned about 17% in 2021—also trailing the broader market.
Other dividend sectors did better, including energy, financials, and real estate. The market, says Huber, “had more of a growthy, cyclical bias.”
Still, he adds, “even if you had some of the sectors right, if you didn’t own those cyclical areas—higher-volatility, lower-quality names—you unperformed some.”
That was the case for T. Rowe Price Dividend Growth, which returned a shade over 26% last year, placing it near the middle of its Morningstar category, large-cap blend, meaning that it falls somewhere between growth and value. Huber has run the fund since 2000. Its 15-year annual return of 10.5% places it in the top 25% of its peer group over that stretch.
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On the plus side, the retailers his fund holds include Home Depot (HD) and Tractor Supply (TSCO), which returned about 60% and 72%, respectively, in 2021.
But his bets on Ross Stores (ROST) and Dollar General (DG) didn’t fare as well. Ross Stores had a return of minus 6%, and Dollar General returned about 13%.
Still, Huber likes their prospects. Ross Stores suspended its dividend early in the pandemic in 2020, but resumed it during the first half of last year. He called both companies “high-quality, good, durable businesses.”
Even with what he expects to be more-modest earnings growth this year, following the “spectacular recovery” last year, Huber says the outlook for dividend stocks is good. “A combination of slowing earnings growth and a relatively full multiple [for stocks overall] should make the case for dividends as a good way to go for investors,” he predicts.
Tobin’s Take
Tobin, whose duties include co-managing the $1.2 billion MainStay Epoch Global Equity Yield Fund (EPSYX), has more of a value bent than Huber does, and he does see hope for that part of the market.
In 2021, he says, he saw “a market that flipped and flopped” and “there was this push and pull over the course of the year” between growth and value stocks. The Russell 1000 Growth Index returned 27.6% last year, a little ahead of the 25.2% for the corresponding value index. His fund returned 17.4% in 2021, placing it around the middle of its Morningstar peer group, the world large-stock value category.
Value stocks got off to a good start last year, as Covid headlines were a big driver of investor sentiment, along with the 10-year U.S. Treasury note’s yield. That yield topped 1.7% last March, a positive sign for value stocks as investors expressed confidence in the economic recovery. But the yield retreated below 1.2% in August, though it’s moved higher again.
“We had period early in the year when it looked like a reopening trade was gathering momentum and value stocks were doing well,” Tobin recalls. And that helped dividend stocks, many of which have value characteristics.
But that outperformance for value didn’t hold up throughout 2021. “You could almost track how equity-income stocks did by looking at what the 10-year [Treasury] did,” says Tobin. “When the 10-year [yield] retreated and people were concerned about slowing growth, that was a headwind for us.”
Looking ahead, Tobin sees upside for value stocks—and, by extension, dividend names. He frames the value-growth dynamic in bond terms, drawing on his background as a fixed-income investor. He refers to companies such as Tesla (TSLA), a classic growth story, as high-duration stocks, vulnerable to higher interest rates. In contrast, he considers Toyota Motor (7203.Tokyo), more of a value name, to be a low-duration stock.
Why? “The valuation of a company like Tesla is based on an expectation that in the coming years, revenues, earnings, and cash flows are going to continue to grow rapidly and will be much larger than they are today,” he says. In contrast, Toyota “doesn’t have the growth trajectory that Tesla has today” and by that reasoning is less vulnerable to higher interest rates, which the Federal Reserve indicates are coming.
“It’s not to say that these aren’t good businesses with good prospects,” he says, referring to Tesla and other high-duration stocks. But “growth stocks almost by definition are long-duration stocks versus value stocks.”
If value stocks have a sustained run, he believes, that would be a nice tailwind for dividend shares—and dividend investors.
Write to Lawrence C. Strauss at [email protected]
