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Advisors, if you feel as though inflation-fighting ideas are becoming more of a priority this year for clients, you're right.
Inflation, as measured by the consumer-price index, is expected to surge as the US economy emerges from the ill effects of the coronavirus pandemic. Some economists expect the world's largest economy will deliver China-esque GDP growth of 6.4% this year.
“Economists expect growth to slow to 3.2% next year, which would still make 2021-22 the strongest two-year performance since 2005,” reports the Wall Street Journal.
The setup is ripe for Treasury Inflation Protected Securities (TIPS) – the old go to asset for advisors and investors seeking protection against rising consumer prices. Indeed, there are indications the move to TIPS is underway. The Bloomberg Barclays U.S. Treasury Inflation Protected Securities (TIPS) Index sports a 30-day SEC yield of 4.48% and the largest TIPS exchange traded fund hauled in $414.25 million in new assets year-to-date.
While TIPS have long been the safe choice for dealing with inflation and one that remains appropriate for older investors deep into retirement, the asset class usually doesn't sport high yields – long-term average of 1.55% – and requires clients to sacrifice capital appreciation potential. Fortunately, advisors can ameliorate this scenario in effective fashion with equity income/dividend growth stocks.
Better Inflation Hedge
TIPS seem to get all the inflation-fighting glory. Maybe that's because inflation is in the asset's name, but data confirm dividend growers top inflation over long holding periods.
“But for investors with a greater risk tolerance and/or longer time horizons, equity income may be a more attractive inflation hedge,” according to WisdomTree research. “Since 1957, dividends have grown by an average of 5.7% per year—more than 2% above the rate of inflation. This was true during high-inflation periods (the ’70s and ’80s), when inflation averaged more than 6%. It’s also been true during low-inflation periods, such as the last three decades.”
Over that 63-year period, the only time in which dividend growth didn't top inflation was during the global financial crisis. Inflation was subdued at that time, but S&P 500 payout growth suffered due entirely to rampant cutting and suspensions among financial services firms.
Adding to the allure of dividend growers as inflation fighters is that many well-known companies with reputations for steady payout growth are increasing dividends at a rate faster than inflation.
“Seventeen out of 20 (largest domestic dividend payers) of these companies have had annualized dividend growth greater than 3% over the past five years, well ahead of the Fed’s 2% average inflation target. Several have even grown greater than 10% annualized,” according to WisdomTree.
That group includes the likes of Apple (NASDAQ:AAPL), Microsoft (NASDAQ:MSFT) and Johnson & Johnson (NYSE:JNJ).
Why It's Important Now
Obviously, advisors want to prepare for inflation conversations with clients for the simple reason that economic growth is taking off and consumer prices are rising. Those are irrefutable facts.
However, there are other reasons the intersection of dividend growth and rising inflation matter right here, right now. On the more positive side of the ledger, data also confirm S&P 500 payout growth is rebounding. That could provide a buffer for clients absorbing inflation news.
“On a per share basis, S&P 500 Q1 2021 dividend payments for the S&P 500 increased 0.2% to $14.68 from Q4 2020's $14.64 and were down 4.2% from the Q1 2020 record $15.32 payment,” according to S&P Dow Jones Indices. On an aggregate basis, index components paid $123.9 billion in dividends in the quarter, up from $121.6 billion in Q4 2020.”
Advisors should trust the data and help clients realize TIPS aren't the only game in town when it comes to beating inflation.
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