S&P 500’s Hidden Strength: Dividends

Unless you count the dividends.

In fact, while the double-digit rally looks like a great year for the S&P 500, unless the index gains that 0.28% on Friday—the last trading day of 2023—it will be the first time in a decade that that the S&P 500 hasn’t hit at least one record high in a calendar year.

However, as Daniel Wiener, former chairman and CEO of RWA Wealth Partners notes, the S&P 500 total return index, which includes dividends, has hit seven new highs in 2023. “Over the 36 years since S&P has calculated at total return index, dividends have added almost 2.4% per annum to investors’ returns,” he writes. “That’s significant and reflects both the power and the compounding value of those payouts.”

Dividends can only do so much: During last year’s bear market, the S&P 500 total return index only hit one new high—just like its standard counterpart. But 2022 was the only year in the past decade that the total return index didn’t register more records than the S&P 500.

Moreover, the Magnificent Seven big tech stocks, which account for more than a quarter of the S&P 500’s market value, had a paltry average yield of less than 0.5% as of mid-November:
Microsoft,

Apple,
and
Nvidia
had payouts of 0.81%, 0.51%, and 0.03% respectively, while
Amazon.com,

Alphabet,

Meta Platforms,
and
Tesla
don’t pay dividends. Yet even with the dominance of the Seven, dividends still had the power to tip the S&P 500 to new highs.

The power of dividends is also worth considering given that high interest rates have led many investors to eschew stocks for virtually risk-free Treasuries, as yields on the 10-year T-note flirted with 5%, and parking cash in high-yield savings accounts. That might seem like a no-brainer for now, but it does hamper one’s long-term gains.

Of course, with the book about to close on 2023, what really matters to investors now is the look ahead. And here, Wiener argues the outlook is good, even if we do understandably take a near-term breather from recent gains.

“Over the past 36 years new highs have come with great regularity, in what I call a stair-step pattern,” he writes. “The gaps between the series of highs show you where the great bear markets and recoveries took place, including the tech bubble, crash and recovery, followed almost immediately by the Great Financial Crisis, and the current recovery from the 2022 peak.”

In other words, losses that seem big in the moment—like those in 2008—are actually quite small when you zoom out to the bigger, multiyear picture. In fact, he notes that over the past five years the S&P 500 hit 139 highs, even as it fell nearly 34% from its 2020 high and more than 25% from its 2022 record.

That’s a good reminder to spend time in the market rather than trying to time the market. Yet it also highlights how variable stocks really can be, for all their long-term power as wealth generators.

In fact, as DataTrek co-founder Nicholas Colas writes, anyone over the age of 40 has lived through both some of the best and worst periods of 20-year compound S&P 500 returns in the modern age: The index compounded at 17.7% nominal growth rate during the 1980-1999 bull market, but the next two-decade period, ending in 2018 saw nominal returns of just 5.6%. (Little wonder then that many millennials equate the market with gambling: “Given the volatility they have seen in their lifetimes, one can understand why,” he notes.)

At this point, with tech accounting for some 40% of the S&P 500, that sector’s ongoing innovation in the areas of machine learning and artificial intelligence “must be the engine of strong index returns,” in the 20 years ahead,” Colas writes. “No other pathway to above-average gains is mathematically possible now.”

For his part, he thinks that tech is up to the challenge. Still, as Ipek Ozkardeskaya, senior analyst at Swissquote Bank, notes “the general expectation is a cool down in the technology rally, and a rebalancing between the big tech stocks and the [S&P 500] on narrowing profit lead for the Magnificent Seven compared to the rest of the index in 2024.”

That’s no surprise, given how far the group has taken the market this year. So while it’s impossible to say what 2024 holds, it’s fair to speculate that either tech will surprise to the upside again—as it did in 2023—or it will notch smaller gains before future leap forwards—i.e. the stair-step.

Either way, investors who stick with the market will likely come out best.

Write to Teresa Rivas at teresa.rivas@barrons.com