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The Honolulu Advertiser

Posted on: Sunday, October 5, 2003

Suddenly, dividends are hot again

By Tom Petruno
Los Angeles Times

When Congress slashed the top federal tax rate on dividend income in May, Wall Street expected more U.S. companies would be motivated to boost their cash payouts to shareholders.

A summer of fat dividend increases by some of the nation's biggest companies shows that wasn't just wishful thinking.

Despite concerns that corporate managers would prefer to hoard cash for stock buybacks, acquisitions or other purposes, a growing number of companies have been choosing to send more of their profit directly to their investors in the form of dividends.

Markets research firm Standard & Poor's in New York said this week that 418 companies raised their dividends in the third quarter, a jump of almost 40 percent from the same period in 2002 and up 85 percent from the third quarter of 2001.

"Clearly, companies are responding to the lower tax rate on dividend income," said Joseph Lisanti, editor of S&P's Outlook newsletter.

What isn't clear, however, is whether investors are showing a new appreciation for dividends. The stocks that have led the market's rally this year typically have been highly speculative issues that pay little or no dividend — most technology shares, for example.

That has troubled some Wall Street pros, who fear investors didn't learn anything from the collapse of tech shares during 2000-2002.

"It's a return of wishful thinking" about unending capital gains, said Richard Bernstein, market strategist at Merrill Lynch & Co. in New York.

Yet some well-known companies that have raised their dividends dramatically in recent months also have seen their stock prices rewarded.

Fast-food titan McDonald's Corp., for example, last week boosted its annual dividend 70 percent, to 40 cents a share.

Shares of financial services giant Citigroup Inc., which in July raised its annual dividend 75 percent to $1.40 a share, are up 34 percent this year, double the rise of the S&P 500 stock index.

Home builder Lennar Corp. last week said it would begin paying an annual dividend of $1 a share, an increase from the token 5 cents a share it had been sending.

The federal tax cut reduced the top rate on dividends from 38.6 percent to 15 percent — the lowest since before World War II — as part of a broader economic-stimulus package put forth by the Bush administration.

Many investors had become uninterested in dividends during the last decade in part because the tax code taxed them as ordinary income, while long-term capital gains were taxed at far lower rates.

With the latest tax cut, dividends and capital gains are taxed at the same rate. In theory, that should make dividend income more attractive to investors, because dividends generally represent a return that investors can count on each year. Capital gains, by contrast, can be ephemeral.

Companies tend to decide on dividend payment rates with great care, and are loathe to cut their payouts once established.

But even as dividend payments rise this year, the percentage dividend yield on most stocks is in the low single digits.

That may be one reason why many investors can't get excited about dividends, experts say.

The annualized dividend yield (calculated by dividing the dividend by the stock's price) on the S&P 500 index is 1.6 percent. In the 1950s and '60s, blue-chip yields typically were in the 4 percent to 6 percent range.

Still, the dividend yields on many big-name stocks are far above the 0.5 percent or so that investors are earning on money market funds and other short-term accounts.