When it comes to predicting consumer spending patterns, especially those of the baby boomers who are traditionally reliant on fixed income (but lately have had to migrate back into the workforce, as retirement prospects diminish, in effect displacing the young 18-24 year old Americans where unemployment is now at a substantial 46%), the following two charts from today's David Rosenberg letter do a great job at explaining the schism between interest and dividend income. The former, as is well-known, has been crippled and is plunging courtesy of Bernanke's ZIRP policy, which makes cash yields on savings and fixed income instruments virtually negligible, and the latter, which while rising, has a long way to rise if it is to catch up to lost annuity potential. It is here that the primary tension for the Fed resides: it has to force investors to switch their mindsets from the capital preservation of fixed income, to the risky behavior of pursuing stock dividends. It is also here that we see the lost purchasing power of the US consumer: interest income is down $450 billion from 2007-2008 levels to roughly $1 trillion, while dividend income has risen to $825 billion, which is where it was at the prior peak. In other words, when all is said and done, Bernanke's ZIRP policy has eliminated $450 billion in purchasing power, even if he has succeeded in reflating the equity bubble. Yet while bonds at least have capital preservation optics, what happens to dividend stocks whose cash flow yields can be eliminated at the bat of an eye, if and when the next flash crash materializes, or the next financial crisis is finally too big for the central planners to control?
Personal Interest Income:
Personal Dividend Income:
And in Rosie's words:
With bond yields melting and money market rates vanishing in recent years, the household sector has seen its income stream from the fixed-income market (and bank accounts!) recede dramatically. Interest income is all the way down to $974 billion, the lowest in seven years, and down by nearly one-third or $450 billion from 2008 levels.
This has happened at a time when the median age of the 78 million pig in a python, otherwise known as the baby-boomer cohort, is moving from 56 to 57 and the first of this group is already in their mid-60s. The investment life-cycle suggests that this cohort will begin to shift towards capital preservation and income orientation. The dilemma, of course, is that to generate income of any means, this requires non-traditional sources like corporate bonds (only 'junk' now will give you a coupon north of 7%), REITs, MLPs, hybrids and the like.
This ultra-low rate backdrop, coupled with the record amount of liquidity on the corporate balance sheet and the growing need for income or income-proxies for the aging but not yet aged boomer population, has unleashed a secular growth phase in dividends. Dividends now come to $824 billion and are 85% of the size of interest income for the household sector, and at the current pace (dividends are +7% from a year ago and interest earnings are down 3%) these two lines will cross for the first time on record within the next two years.
The corporate sector is responding to shareholder demands and increasingly focussed on returning retained earnings in the form of dividends — this year should be a record. And the reality is that payout ratios of 30% are below the typical level of 35% in the most recent pre-bubble cycle, let alone the long-turn historical norm of 52%. So even though the income-equity theme has lagged so far this year, this remains a secular theme ... especially for those content on being the tortoise, building the wealth by accumulating the cash flows, rather than the hare who inevitably gets exhausted chasing performance.