Latest / Dividend Investing with Fexingo: Income Stocks, Yield, and Long-Term Cash Flow Portfolios / Why Dividend Stocks Win in a Steepening Curve
Transcript
- Lucas: So the ten-year Treasury yield just pushed up to 4.69 percent, and the spread between the ten-year and the two-year has widened again. That is a textbook steepening curve, and for dividend investors it is not the scary signal a lot of people think it is. Luna: Right, because a steepening curve usually means the market is pricing in stronger growth, not necessarily a recession. But how does that actually play out for income stocks? Lucas: That's the question. And the data from this week is a great place to start. Look at the big dividend ETFs — VYM is up one point seven percent over five days, SCHD is up one percent. Meanwhile the S&P 500 is up two point one percent. So dividend stocks have lagged slightly, but they've held their own. Lucas: But the interesting part is the dispersion underneath. Realty Income, the monthly dividend REIT, is down one point five percent over the same stretch. That's the bond proxy effect. When long-term yields rise, the present value of those steady cash flows drops, and the stock takes a hit. Luna: So some dividend stocks get hurt by rising yields, but others actually benefit. Which ones are winning here? Lucas: Financials tend to do well in a steeper curve because they borrow short and lend long. Banks see their net interest margins expand. And you can see that in the broader market — the Dow is up one point six percent, helped by its heavy financial weighting. Lucas: But it's not just banks. Think about a company like Johnson & Johnson — it's up one point nine percent this week. It's a defensive dividend stock, but it's also got that healthcare stability that investors want when there's any uncertainty. Luna: So the takeaway isn't 'dividend stocks are all the same.' It's that the yield curve is sorting them into winners and losers. Lucas: Exactly. And that's why we need to talk about the mechanism. The yield curve steepened because the ten-year yield jumped from 4.63 to 4.69, while the two-year only moved from 4.18 to 4.25. That's a signal that the market expects stronger growth and maybe a bit more inflation down the road. Lucas: But here's the twist: the odds of a Fed hike in September just tumbled after a weak July jobs report. So you've got this odd mix — the long end is rising on growth expectations, but the short end is being held down by Fed cut expectations. Luna: That's a weird environment. So what does it mean for someone who's relying on dividends for income? Lucas: The first thing is: don't panic about the steepening curve. It's not a harbinger of a dividend crash. In fact, history suggests that when the curve steepens from a flat or inverted position, dividend stocks that focus on growth — not just high yield — tend to outperform over the next twelve months. Lucas: Think about it this way. A steepening curve often coincides with nominal GDP picking up. And that means companies with pricing power can grow their earnings and their dividends. That's the dividend growth story, not the bond-proxy story. Luna: So the real lesson is: focus on dividend growth, not just yield. Because a high yield might come from a company that acts like a bond — and those are the ones that get hurt. Lucas: Right. And that's why the dividend aristocrats are interesting. They've increased payouts for 25-plus consecutive years, but they're not all created equal. Some are more interest-rate sensitive than others. Lucas: Take Procter and Gamble, for example. It's up half a percent this week. It's a classic defensive dividend stock, but its products are everyday essentials — so it doesn't move as much with the yield curve. It's more about steady cash flow. Luna: And then you've got Coca-Cola, which is basically flat. So the bond-proxy effect isn't hitting the staples as hard as it hits the REITs. Lucas: Exactly. The key is to look at the underlying business model. A real estate investment trust like Realty Income is structurally a bond proxy because its income is contractual leases. A consumer staple has pricing power and brand loyalty, so it's more insulated. Lucas: But there's another layer to this. When the curve steepens, it often reflects rising inflation expectations. And that's where you want companies that can pass on costs. That's why energy and materials can do well — but they're more cyclical. Luna: So for a typical investor, how do you position a dividend portfolio for this environment? Lucas: Start with a core of dividend growth ETFs — VYM and SCHD are good examples. They give you broad exposure. Then you can tilt toward sectors that benefit from steepening, like financials. And you should be selective about high-yield names with bond-like characteristics. Lucas: The other thing to watch is free cash flow coverage. We talked about that a few episodes ago, and it's even more relevant now. A company that generates strong free cash flow can sustain its dividend even if borrowing costs stay elevated. Luna: That's a good reminder. Because the yield on the 30-year Treasury is now 5.22 percent. That's a real alternative for income investors, so companies have to work harder to justify their dividends. Lucas: That's the competitive pressure. When you can get five percent on a risk-free 30-year bond, a dividend yield of three percent on a stock with some risk starts to look less attractive. That's why you need companies that can grow their dividends faster than the risk-free rate. Lucas: And that's where the real opportunity is. If you can find companies with a dividend growth rate of six, seven, eight percent a year, the starting yield matters less over time. Luna: So the steepening curve is actually a filter. It separates the companies that can genuinely grow their income from the ones that are just masquerading as bonds. Lucas: Exactly. And I know this conversation has been useful for thinking through how to structure a portfolio. If you found value in it, the reason we can keep doing these shows is listener support. It's what keeps this podcast ad-free. So if you're able, you can help by buying me a coffee at buy me a coffee dot com slash fexingo. Luna: Yeah, it's a small thing that makes a big difference for us. And honestly, the more we can dig into these topics, the better. Lucas: So back to the curve. The next few weeks are going to be telling. If the ten-year keeps climbing, we'll see more pressure on bond proxies, but more tailwind for financials and dividend growers. Luna: What should we watch for specifically? Lucas: Watch the Fed's response to that weak jobs report. If they signal they're done hiking — or even consider a cut — the short end could rally, and the curve could steepen even more. That would be a clear signal for dividend investors to lean into growth. Lucas: But also watch the earnings reports from the big financials. If they show expanding net interest margins, that confirms the steepening is translating into real cash flow. Luna: And if we see a pullback in the high-yield bond proxies, that might be a buying opportunity for someone with a long time horizon. Lucas: That's the thing — a steepening curve is not a reason to abandon dividends. It's a reason to be more thoughtful about which dividends you own. The companies that can grow their payouts are going to be the ones that carry your portfolio's income for the next decade. Luna: So the bottom line: don't fear the curve, respect it. Lucas: Respect it and use it. That's the smart play.