Income investors got a milestone this week. On Tuesday, Aug. 18, the 30-year Treasury yield topped 5.33%, its highest level in 19 years, as worries over inflation and government spending pushed long-term rates higher.
The Schwab U.S. Dividend Equity ETF (SCHD +0.80%), a $109 billion fund holding about 100 dividend-paying stocks, yields about 3.1% at its current share price. That’s a gap of about 2.2 percentage points in favor of the bond — guaranteed, for 30 years, backed by the U.S. government.
A saver hasn’t faced a choice framed quite this way since 2007. Treasury data shows the long bond last yielded this much in June of that year, when it peaked at 5.35%.
So what happened the last time the long bond yielded this much? The answer isn’t comfortable for either side of the trade.
Image source: Getty Images.
The bond kept its promise
Anyone who locked in the long bond’s 5.35% yield in June 2007 got exactly that: 5.35% a year, locked in for three decades.
And the win came faster than the payment schedule. As the financial crisis unfolded, the 30-year yield collapsed to 2.69% by the end of 2008, touching 2.53% that December. Falling yields mean rising prices, so a buyer at mid-2007’s peak yield was sitting on a locked-in income stream and a large price gain barely 18 months later.
It can be easy to dismiss the long bond when stocks are working. In a downturn of 2008’s size, it was the asset that delivered.
Then came 804 dividend cuts
The equity-income side of the ledger went the other way. Standard & Poor’s counted 110 negative dividend actions across U.S. common stocks in 2007. In 2008, there were 606. In 2009, there were 804.
In the first quarter of 2009 alone, indicated dividend payments fell by a net $43.8 billion, a one-quarter record that even the pandemic’s worst quarter didn’t match. Companies raising dividends thinned out at the same time, with increases falling from 2,513 in 2007 to 1,191 in 2009.
The cuts reached some of the market’s most trusted payers. General Electric reduced its quarterly dividend from $0.31 to $0.10 per share in February 2009, a move the company said would preserve about $9 billion a year. A two-thirds cut to a payout that size tells you how deep the damage ran.
The recovery took years, not quarters. Dividend increases across U.S. stocks totaled $26.5 billion in 2010 and $50.2 billion in 2011 — an 89% jump, and still only a return toward the old pace. As late as January 2012, S&P was forecasting that the market’s indicated dividend rate would finally surpass its June 2008 record later that year. That’s a four-year round trip for payouts that were supposed to be the dependable part.
Today’s fund isn’t 2007’s
The Schwab fund didn’t exist for any of this. It arrived in late 2011, almost perfectly timed to the recovery.
And it tracks the Dow Jones U.S. Dividend 100 index, which screens for companies with at least 10 consecutive years of dividend payments plus financial-strength measures like cash flow relative to debt. A fund built this way would arguably have dodged some of that era’s worst cutters. Of course, no screen catches everything in a deep recession.
Schwab U.S. Dividend Equity ETF
Today’s Change
(0.80%) $0.28
Current Price
$35.11
Key Data Points
AUM
$112B
Dividend Yield
2.98%
Expense Ratio
0.06%
Top Holdings
ABT
4.86%
MRK
4.82%
AMGN
4.75%
The result is a portfolio that leans toward value stocks with long payout records.
The other difference is what the gap is made of. In 2007, the spread closed because the economy broke — Treasury yields collapsed, and payouts were slashed. Today’s spread opened because long yields surged, not because anything gave way on the equity side. The fund’s shares have returned about 27% this year. A yield spike tends to hit growth stocks first. The challenge it poses to an income fund builds more slowly, by competing for the same savers.
So I think the lesson here is specific. The 2007-level bond yield wasn’t itself a warning about dividend stocks, and it wasn’t an all-clear for them either. The bond delivered, and anyone who took it was rewarded for the next several years. What decided the outcome for income investors was whether the companies behind the payouts could keep paying them through a recession.
A 5.3% yield backed by the government is strong competition for a 3.1% equity yield, and it’s the highest the long bond has paid in 19 years. That’s pressure on the valuation of every income stock, the fund’s holdings included. For anyone who owns the fund, though, the item to watch isn’t the spread. It’s the companies behind the payouts.
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