The following is in response to our article, Gundlach: A Debt Ceiling Impasse Could Drive Rates Lower, which appeared last week:
Dear Editor,
A more appropriate teaser would be “Gundlach hopes that Bernanke is wrong on rates.” Evidently, Gundlach’s presentation did not give any reasons why rates would not go up, other than the statement that “coupon payments on the Treasury’s debt, however, would continue.” But the administration has made it clear that payments would be cut across the board, including those to bondholders. Indeed, in our highly politicized economy, the administration can do little else. Would there be social unrest if we cut entitlement payments to the bone, and kept on paying interest on our debt? I know many seniors who would go to the streets if that occurred.
I am sure that Mr. Gundlach has a fine investment record; otherwise he would not be quoted in your publication. But perhaps bond traders don’t have the best perspective on the macro forces that move their markets.
Sincerely,
Thomas H. Zimmerman, CFP®
Zimmerman Wealth Management, LLC
Evanston, IL
The following is in response to Don Moir’s letter to the editor, which was in response to Doug Short’s commentary, A Short History of Dividend Stocks, which appeared on July 5:
Dear Editor,
Don, you are correct. The first year that the dividend yield on U.S. stocks fell below the interest rate on U.S. Treasury bonds was 1959. And for each year since (except for 2008) that has been true. Even using Shiller’s monthly data going back to 1871, there were only 13 months where the dividend yield on stocks was less than bonds (by very small amounts). Seven of those months happened in 1929, and the others were in the late 1800’s, which suggests this was not a result of increased investor concern from the Great Depression.
My studies suggest two specific causes. The first is increasing adoption from 1949 forward of Benjamin Graham’s seminal work, The Intelligent Investor. The trend shows a very smooth reduction of the percentage spread in 1949 until the relationship permanently switched in 1959.
The following excerpt appears only in the first edition:
But in one respect the modern investor differs significantly from his predecessor of a generation ago. Intelligent investment today cannot ignore price changes entirely. The security owner must pay attention to them at least to the extent of endeavoring to protect himself against adverse changes of substantial size. It is also appropriate—for tax and other reasons—that an investor place his prime emphasis, if he chooses, upon an increase in principal value over a period of time rather than upon annual income; but this should not be understood to mean an emphasis upon a quick profit as in the ordinary trading operation. [italics mine]
The second cause has multiple facets, with the conclusion that corporations are disincented to pay dividends even after the dividend tax equalization from a few years ago. First, share repurchases by companies are still a tax-deferred method of increasing shareholder value versus a taxable dividend distribution. The investor will realize this value as a capital gain when they choose to do so. One study shows that insiders make decisions based on personal tax preference (Hsieh and Wang, 2008).
Second, for a CEO with incentive stock options tied to earnings per share, the less shares going forward, the more earnings each share gets.
Lastly, extra cash on the balance sheet makes a company a target for hostile takeovers (which can put a CEO out of a job), and this is an easy and immediate method to get rid of excess cash without the expectation to support an ongoing dividend.
Aaron S. Coates, CFP® CIMA®
Valeo Financial Advisors, LLC
Indianapolis, IN
