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Some asset classes with inflation-fighting reputations have left investors wanting more. Consider the following. Over the past three years – a period including the fast acceleration of inflation in four decades – several of the alleged inflation-fighting categories failed clients and investors.
During that time, the largest exchange funds dedicated to Treasury inflation-protected securities (TIPS) and real estate investment trusts (REITs) posted negative returns, leaving gold as the lone standard inflation fighter to rise over that span. Fortunately, stocks picked up the slack with the S&P 500 returning 29% over those three years.
As advisors know, not corners of the equity market are equally impervious or vulnerable to inflation. One segment that has proven its mettle in the face of persistent inflation is dividend growth. That makes sense because prior to the bout with inflation that started in 2022, S&P 500 payout growth spent decades matching or beating (mostly the latter) inflation.
Dividend growth is an all-weather strategy, but one of the reasons it can really deliver for clients during periods of elevated inflation is because rising payouts within a portfolio can damp some of the sting created by lost purchasing power.
Inflation History on Side of Dividend Growth
As measured by the S&P High Yield Dividend Aristocrats Index, which requires that member firms increase payouts for at least 20 straight years, history confirms that dividend growth benefits clients during inflationary environments.
“Historically, the S&P High Yield Dividend Aristocrats Index has tracked companies that have grown their dividends at a rate that has exceeded inflation over the long term,” notes S&P Dow Jones Indices. “From 2000 to 2023, its dollar dividends grew at a compound annual growth rate of 4.96%, easily beating the Consumer Price Index (CPI) over the same period.”
Data also confirm that the S&P High Yield Dividend Aristocrats Index outpaced longer-dated bonds – another favored inflation-fighting asset class – when the CPI climbed.
“Given that income-oriented investors may view long-term bonds and high dividend yielding stocks as substitutes, it is important to note that the S&P U.S. Treasury Bond 10+ Year Index has lagged the CPI over the last 15 years with just a 2.55% annualized return,” adds S&P Dow Jones. “Meanwhile, the S&P High Yield Dividend Aristocrats Index generated an annualized return of 13.86% over the same period in addition to outperforming the CPI for all periods studied.”
Why Dividend Growth Matters When Inflation Rises
Along with the advantage of blunting some of the effects on purchasing power wrought by high inflation, the steadiness of dividend growth when the CPI rises is another advantage. For example, while the requirement for admission into the S&P High Yield Dividend Aristocrats Index is 20 straight years of dividend increases, many of the gauge’s components have dividend increase streaks of four, five and more decades.
That methodology lends itself to the power of compounding, which should be embraced, particularly when inflation runs hot.
“The benefits of a dividend growth strategy include compounding growth of dividends per share, compounding reinvested dividends and share price appreciation,” concludes S&P. “From Dec. 31, 1999, to March 31, 2024, the S&P High Yield Dividend Aristocrats Index generated a total return of 915.47% and price return of 344.83%.The difference (570.64%) between the total return and price return is due to the contribution of dividends.”