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Buying Dividend Stocks

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					                                                        Stock Selection:
    110 Office Park Way
                                                      Do Dividends Matter?
 Pittsford, NY 14534-1755
585-385-6090 / 800-343-7151                                              January 2004
    FAX: 585-385-9068
     www.clovercap.com
                                           Michael E. Jones, CFA and Steven P. Greiner, Ph.D.




      With the recent reduction in tax rate to 15% on corporate dividends, investors have renewed
      their interest in stocks offering dividend income. However, popular academic theory holds that
      investors should be indifferent to dividends. Also, growth stock proponents would argue that
      equity returns are driven by capital gains and therefore buying dividend paying stocks is less
      important than buying stocks with more rapid growth opportunities. With long term capital
      gains tax rates equal to dividend tax rates, should investors ignore dividends? Do dividends
      matter in the search for optimal equity returns? We believe that the proper answers to these
      questions are found in the actual historic data on returns in the markets. This report is a brief
      version of a study which we conducted to answer these questions.

      Summary Discussion

      We separated the universe of stocks into dividend paying stocks versus non-payers, and then
      further segmented the dividend payers into dividend yield groups based on beginning period
      stock price and reported current dividends. We then examined the historical returns of the
      various groups to judge whether dividend yield had an impact on total returns.

      Our study provides an analysis of the return characteristics of dividend paying stocks versus a
      non-dividend paying universe over the time period of December 1985 through June of 2003. The
      data shows that statistically significant excess returns are available by differentiating among
      stock portfolios on the basis of dividend yield. We’ve found that dividend paying stocks
      with yields between 1% to 4% consistently and significantly outperformed non-
      dividend paying stocks over the study period with concomitant lower volatility. The
      “sweet” spot to maximize excess return consists of a portfolio of stocks with dividend yields of
      between 3% to 4%. We can also conclude that as a group, non-dividend paying stocks have poor
      risk and return characteristics relative to the dividend payers in general.

      Study Design

      We utilized the Factset/Computstat Research database without survivorship bias to examine the
      returns of dividend paying and non-dividend paying stocks beginning in December 19851 to the
      end of June 2002. Our beginning universe consisted of all the US domestic stocks greater than
      $100 million in capitalization and with an average yearly price greater than $3 per share. For a
      given month, we then downloaded the prevailing dividend yield of all stocks and separated out
      the stocks with dividend yield from those with no dividend. We further segmented the dividend
      paying stocks into separate portfolios based on their yield. Stocks with yields between 0% and



      1
          That is the extent of the data available in the Factset/Computstat Research database.
  1%, 1% to 2%, 2% to 3%, etc. formed separate portfolios. We held these stocks (equal weighted)
  for 12 months, while holding the non-dividend paying (equal weighted) universe for the same 12
  months and monitored their performance. The time period would then move forward one month
  and the process repeated. In this way 199 overlapping time periods were studied, the last being
  July 1st of 2002 where the portfolios’ performance were monitored until June 30 of 2003. The
  returns are gross total returns with no expenses or trading costs applied.

  Total Return of Portfolios

  We compiled total return of the varying subsets of dividend yielding stocks against the non-
  dividend paying universe over time. Table I below shows the performance of the portfolios by
  listing the 12 month rolling compound annual return for the dividend yielding portfolios, the non-
  dividend paying universe and the Wilshire 5000 along with their standard deviation over the
  time period of the study.

  Non-dividend paying stocks posted poor results, gaining 5.85% versus a return of 9.15%
  for the Wilshire 5000 Index. Stocks in the groups with dividend yields between 1% and
  4% out-performed the Wilshire during this time period and showed less risk, as
  measured by standard deviation of return.

  The dividend yield range of 3% to 4% was the best performing portfolio, beating the non-dividend
  paying universe by a hefty 4.11% per year. Returns worsen significantly for portfolios with
  dividend yields above 5%. We believe this is due to these portfolios containing a few companies
  in distress who are often about to eliminate their dividends. These stocks often suffer severe
  price erosion when their dividends are reduced or eliminated. The effect of this minority group
  drags down the total portfolio return.

                                                 Table I

                   Average 12 Month Rolling Total Return & Standard Deviation
                                  December 1985 - June 2003
                                    Avg Compound Excess Return over Std Deviation of
                                    Annual Return Non-Div Universe      Return
                Div Yld Range %
                   No Dividend           5.85%                                 22.31%

                       0-1               7.88%              2.03%              15.08%
                       1-2               9.16%              3.31%              15.08%
                       2-3               9.27%              3.41%              14.80%
                       3-4               9.96%              4.11%              14.96%
                       4-5               8.74%              2.89%              15.52%
                       5-6               6.21%              0.35%              14.51%
                       6-7               5.96%              0.11%              13.63%
                       7-8               5.94%              0.08%              12.74%
                       8-9               5.41%             -0.44%              13.76%
                       9-10              3.08%             -2.78%              17.93%

                  Wilshire 5000          9.15%                                 16.28%



                                                              Clover Capital Management, Inc. – January 2004
Page 2                                                                “Stock Selection: Do Dividends Matter?”
 To dramatize the return differential, consider the impact of $1,000,000 invested at the non-
 dividend paying portfolio return (5.85%) versus the return of the 3-4% dividend yield portfolio
 (9.96%). During the 18 years of this study, the 3-4% dividend portfolio would have grown to
 $5,523,637. The non-paying portfolio would total $2,782,502. If you invested in the dividend
 paying portfolio, you would now have approximately twice as much money versus investment in
 the non-dividend portfolio2.

 The annualized return performance over the study period for dividend payers versus non-
 dividend payers is significant. Equally impressive is the frequency of the excess return across all
 the one year holding periods. Portfolios for ranges of dividend yield up to 4% out-perform a non-
 dividend paying universe in more than 65% of the 199 periods in our study. This means that in 2
 out of every 3 periods, the dividend payers out-performed non-dividend paying portfolios.

 Statistical Significance

 In any study of this nature, it is important to check the statistical significance of the data before
 interpretation. For this reason, we calculate confidence limits on the means and variance of the
 various dividend yield distributions of return using “bootstrapping”i methods. We can determine
 quite accurately the 5% and 95% confidence limits on the means of the return distributions. The
 statistical data is omitted from this summary for the purposes of brevity. However, the data
 clearly demonstrates the statistical significance of excess return for dividend paying stocks up to
 4% dividend yield, where they offer higher return with much less volatility and resultant higher
 Sharpe ratios too.

 Conclusion: Dividends Do Matter

 We believe the results of this study clearly show that portfolios of stocks paying dividends are
 superior investments versus non-dividend paying stocks. Both taxable and tax exempt investors
 must consider the substantial long term return differentials.

 The results from this study are representative of portfolios of stocks. Weighing the investment
 merit of an individual security should not be based on dividend yield alone. However the data
 suggests that dividend paying stocks as a whole offer superior long term returns. Therefore
 investors would be wise to consider dividend yield in any equity investment strategy.

 Clover Capital conducts studies of this type in a never-ending effort to improve our results
 through rigorous research and well grounded disciplines. We continue to adapt our quantitative
 and fundamental research techniques to utilize the fruits of these efforts.

 This report provides an overview and highlights of our comprehensive study. The complete
 version of the study is contained in a working paper which we are preparing for potential journal
 publication. Please call if you wish to see the paper.


 References
 i
  “Performance Evaluation using Fast Permutation Tests”, Tim Hesterberg, Research Dept, Insightful Inc., 1700 Westlake
 Ave; N. Suite 500, Seattle, WA 98109 implemented in SPlus Software “Simulation and Bootstrapping for Teaching
 Statistics” , Tim Hesterberg, Research Dept, Insightful Inc., 1700 Westlake Ave; N. Suite 500, Seattle, WA 98109


 2
     Assuming no transaction costs or fees.
Clover Capital Management, Inc. – January 2004
“Stock Selection: Do Dividends Matter?”                                                                            Page 3
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           110 Office Park Way
           Pittsford, NY 14534
               585.385.6090
               800.343.7151
           www.clovercap.com

				
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