Latest / Inflation and Your Money with Fexingo: Protecting Purchasing Power and Beating Inflation / How Inflation Is Quietly Eating Your Dividend Stock Returns
Transcript
- Lucas: The latest CPI data from June shows headline inflation at 332.6, down from 333.98 a month earlier. Core CPI is essentially flat at 336.1. So the inflation rate is cooling, but it's still above the Fed's 2% target. Lucas: And the 10-year breakeven inflation rate, which is what the market expects for average inflation over the next decade, is at 2.21%, down from 2.26% just a week ago. That's still elevated compared to pre-pandemic levels of around 1.7%. Luna: So we're not out of the woods yet. But how does that affect someone who's relying on dividend stocks for income? Lucas: That's exactly the question. If you're holding stocks for dividends, you're likely lulled into thinking that because you're getting cash payments, you're protected. But the reality is that inflation erodes the purchasing power of those dividends over time. Lucas: Unless the dividend growth rate consistently outpaces inflation, your real income is declining. The S&P 500's dividend yield is around 1.4% right now. That's well below the 2.21% breakeven inflation. Luna: So even if the stock price stays flat, you're losing buying power each year. Lucas: Exactly. And you also need to look at dividend growth. Over the past decade, S&P 500 dividends have grown at about 5-6% annually, which looked great in nominal terms. But when inflation averaged 3-4% over the last few years, the real growth is maybe 2-3% at best. Lucas: For sectors like utilities, which are often seen as inflation-resistant, dividend growth has been slower, around 2-3% annually, barely keeping pace. Luna: So if I'm a retiree living off dividends, my spending power is getting squeezed. What's the alternative? Some dividend stocks in sectors like energy or financials have grown dividends faster, but that comes with higher volatility. Lucas: Right. The key is to build a diversified dividend portfolio that includes stocks with a history of growing dividends faster than inflation. But even then, you need to monitor the inflation breakeven rate. Lucas: For example, if you own a stock that's increased its dividend by 4% over the past year, but breakeven inflation is 2.21%, you're still losing about 1.8% in real terms if your portfolio yield is only 1.4%. So the real return on your income is negative. Luna: That's a sobering thought. So what can investors do? Maybe consider dividend growth ETFs that focus on companies with consistent above-inflation increases? Lucas: That's one approach. But you also have to factor in the current market environment. Look at the Nasdaq is down nearly 3% over the past five days. Tech companies are cutting costs, like Visa announcing a 7% workforce reduction. That could signal slower dividend growth ahead. Lucas: And with the Fed holding rates steady at 3.63%, bonds are offering competitive yields again. So there's a real trade-off. Luna: It's a lot to think about. And you know, if these kinds of money conversations have helped you think about your portfolio differently, consider supporting the show. We keep it ad-free thanks to listeners like you who contribute at buymeacoffee.com/fexingo. Lucas: Yeah, it really does help us keep digging into these angles without having to sell you anything. So thanks to anyone who throws a few bucks our way. Now, back to the trade-off between dividend stocks and bonds. Luna: Right. So you mentioned bonds offering competitive yields. The 10-year Treasury yield is around 4.2% now, which is well above the S&P 500 dividend yield. So why would anyone still hold dividend stocks for income? Lucas: That's the million-dollar question. The answer is that dividend stocks offer potential capital appreciation and dividend growth over time, while bonds are fixed. But in the short term, if inflation stays elevated and dividend growth doesn't accelerate, the real return from bonds may actually be higher. Lucas: The 10-year breakeven at 2.21% means the real yield on a 10-year Treasury is about 2%, which is better than the negative real yield from dividends right now. Luna: So are we seeing a shift? Investors moving from dividend stocks to bonds? Lucas: Some rotation has been happening. But it's not a stampede because many dividend stocks are in sectors like healthcare and consumer staples that have pricing power. For example, Johnson & Johnson has raised its dividend for over 60 consecutive years. Lucas: But even there, the dividend growth rate has slowed to around 5% recently, and with inflation at 2.2%, that's still a real increase of about 2.8%. So it's positive, but barely. Luna: So the takeaway is: don't assume dividend stocks automatically protect you from inflation. You need to look at the dividend growth rate relative to inflation, and compare the real yield to other income sources like Treasury bonds. Lucas: Exactly. And with the breakeven inflation rate declining from 2.26% to 2.21% in just a week, market expectations are that inflation will continue to moderate. But even at 2.21%, that's above the Fed's target. Lucas: So if you're a dividend investor, you need to be vigilant. One concrete move: check the dividend growth rate of your holdings over the past three to five years and see if it has kept pace with CPI. If not, you might be losing buying power year after year. Luna: Great advice. And we'll keep tracking this as inflation data comes out. For now, it's a reminder that even in a cooling inflation environment, the erosion is still happening. Lucas: Absolutely. For Inflation and Your Money with Fexingo, I'm Lucas. Luna: And I'm Luna. Thanks for listening.