There has been a record number of dividend cuts on the UK market. Financial services company AJ Bell estimates that as a result of the current crises, dividends totalling more than £30 billion have either been suspended or cancelled. This is a truly shocking amount. Even stalwarts such as Royal Dutch Shell which had an enviable dividend record dating back to the 1940’s has had to recently cut its dividend. Many pension funds and income focussed investors have been greatly affected as a result of this and the effects will be far reaching.
Even yours truly has been hit as a result of all the divided cuts and suspensions. Three positions in particular have had a dreadful effect on my income, Shell, BT and IMB.
Whereas I was previously expected to receive an annual dividend of £4,162 from my portfolio, this figure has fallen to £3,720. That’s certainly quite a drop. I want to see my dividends increasing by 10%, not falling by 10%!
Yes the drop is painful but it is still far more than anything I would receive from a bank or any savings account. To me dividend income still remains one of the best ways to create a passive income stream.
Furthermore, I still am of the view that the stock market is the greatest money making machine ever created and in the long term 2020 will just be a blip on the charts. Even though my dividends have been cut, my total return from the stock market is still positive for the year!
I have written many times of the power of dividends and this temporary setback is not going to shake my unwavering belief. Yes it has given me food for thought, but I still feel achieving financial freedom is a very achievable goal via dividend income. Sure, I may need to increase my buffer of the amount of dividend income needed to cover my expenses.
Looking at my plan to achieve financial freedom, I am still slightly ahead of schedule even with this cut. But the cuts have told me an important lesson, never reach for yield. It has been written countless times but it seems people only appreciate this fact once they’ve been burnt. We should give the market more credit when it predicts a dividend cut by pricing dividend yields in the double digits.
As for my plans on what to do with the stocks that I own that have cut their dividends? For now nothing. Many dividend focusses investors would have sold their shares at the first sign of a cut. But I feel this is usually the wrong move as following this rule generally makes one sell at the bottom.
When a company cuts its dividend, all the big income focussed investors such as pensions funds and equity income funds are forced to sell the company’s stock as in no longer meets their criteria. This usually leads to the shares becoming extremely cheap. Cheap stocks have artificially low expectations attached, and this serves as the famous “margin of safety” that gives better returns going forward because even moderately decent news can give great investment.
It’s crazy how willing people are to part with great assets simply because they become cheap. For some reason, the programming that drives us to desire sales, deals, and bargains in every other area of life doesn’t seem to carry over to the stock market. This comes, I think, from a failure to appreciate that buying a stock is a real-live ownership position in a business that you can maintain for the rest of your life if you do not sell.
Selling stocks in great companies as a result of a temporary setback is a mistake in my opinion. Sure the company might cut returns to shareholders today but when it eventually does get back on track, it will send gushers of cash to the investors that kept faith.
So that is what I have done for now, kept faith in the companies that have cut or temporarily suspend dividends.
And even though the income generated from my portfolio has dropped by 10%, I am not out of pocket. Stocks in my portfolio have surged from the March lows to leave me above water for the year.
Even Royal Dutch Shell which I bought recently slightly before the dividend cut announcement is up approx 30% from that purchase! It pays to stick with the quality outfits.
In the coming weeks and months I will continue to risk assess all my portfolio holdings to see the ones worth holding and which if any need to be eliminated.
These are testing times for investors. In 10-15 years time, I want to be able to look back with pride knowing that I made the right decisions.