How Dividend Cuts Tell the Story of a Sickly Global Economy

Dividends have been making the news for all the wrong reasons lately. The guaranteed payouts, important in luring investors, look less cast-iron than they have for some time.

These days, if companies aren’t slashing dividends, they’re probably planning to. That’s the unavoidable by-product of operating it today’s stock market.

Miners in particular have hogged most of the spotlight on the domestic scene. Rio Tinto [ASX:RIO] is facing pressure to maintain dividends as earnings decline. So much so that Rio is expected to announce changes to its policy this Thursday when it releases its annual results. BHP Billiton [ASX:BHP] is also likely to announce changes to its progressive policy soon.

As I wrote yesterday, there are suggestions Rio may hold off on a decision until BHP makes its move first.

In any case, the longer the commodity rout drags on, the harder it’ll be for either company to maintain current dividends. And there’s no telling when the commodity markets, in particular iron ore, will hit a bottom.

Whether they change payout ratios, or just lower yields, something will have to give. But when you’ve promised investors that payouts would never retreat, you risk losing their loyalty when it does. We’ll have to wait and see how loyal Rio and BHP investors remain should payouts decrease.

As mentioned, this is the kind of environment corporate Australia finds itself in. In fact, it’s the same space the global corporate sector occupies too. Mining is only an extreme example of how bad things have gotten, as it’s at the forefront of the downturn.

But this trend of dividend cuts isn’t confined to mining alone. It’s a global problem that’s affecting all industries and sectors. For lack of a better term, slashing dividends has become fashionable. It’s all the rage. More companies are cutting payouts than they have since 2009.

A recent Bloomberg showed that in 2015 there were 394 companies which made cuts to dividend policies. In fact, there were more cuts made in 2015 than in 2008 during the GFC.

We can’t sit here and say for certain that these parallels suggest anything they might not. But we can sure as hell worry about the undertones.

You’ll get a better idea for this trend in the chart below.



Source: Bespoke Investment Group (via Bloomberg)

You’ll notice that 2015 was second only to 2009 in the number of dividend cuts that were made over the past decade.

At the time, the global financial crisis was something that we all knew we were living under. Today, we might realise there’s still something amiss (and seriously messed up) with the economy. But because we haven’t given it a moniker, we might chalk it up as a transition.

Most people didn’t realise a Second World War had taken place until it was over. We’re probably not heading towards another financial crisis; we’re already in it.

The facts are there for all to see, and dividends merely serve to support this. Look at what’s been happening since 2012. If you compare 2012–14 with 2005–2007, you’ll notice one thing in particular. The extent that dividend are being slashed across the board swamps anything we saw in the mid 2000s.

What does that tell us? That the global economic slump never really went away. It hung around, masked by the money manipulators at central banks.

It’s true that dividend cuts fell between 2010–11. But that was at a time when the wave of new liquidity and credit floating in the financial system would’ve made it hard for anything else to occur.

Either way, the trend highlights that more, not less, companies are slashing dividends. And they’ve been doing so increasingly over the past three years. They can’t afford them anymore.

And why is this happening?

There’s a whole host of reasons. Low commodity prices have hurt the mining sector more than most. But weaker profits are a fact of corporate life everywhere, regardless of industry. Moreover, stricter lending standards have made it even more difficult to support dividend policies.

So the parallels between 2012–15, and 2005–09 are both intriguing, and worrying. What they also suggest is that we can expect even more dividend cuts in 2016. And, more to the point, that we’ll realise we’re in another financial crisis very soon.

There’s really not much corporates can do about this. No company wants to lower dividends if they can help it. But companies don’t have much choice these days. As Bloomberg highlights:

Because of the stigma associated with cutting dividends, management is loath to go down that path unless the need is dire. The trend toward trimmed payouts hasn’t let up so far in 2016, especially among companies under stress from soft commodity prices. In recent days, ConocoPhillips slashed its dividend by 66 percent and Potash Corp. of Saskatchewan Inc. reduced its payout by 34 percent.

It won’t be long before we can add BHP, Rio Tinto and the like to that list.

Companies can either cop it on the chin and lower dividends, or to make up for it elsewhere. They could take on more debt to fund dividends, or eliminate them altogether. My bet is on the latter. Credit will continue to dry up, and they’ll have no choice.

Need more proof that dividend cuts are a portent of the coming crisis?

Most people would agree that credit, and liquidity, are key to economic stability. Take either away, and growth is much harder to come by.

I bring this up to illustrate what’s happening on credit markets today. Typically, creditors are lending, companies tend to boost dividend payouts. And why wouldn’t they? When money is easy, dangling a dividend carrot in front of investors is a viable strategy.

Yet what we’re increasingly seeing now is a tightening of this credit outflow. Because of it, these same companies find themselves in a position where they’re unable to keep up with promised payouts. So they cut back on it. Or they stop using buyback schemes (which have plummeted from recent highs set in mid-2014).

And that’s exactly what’s happening, and what will continue to take place.

What will change? Nothing. The merry-go-round continues, until something gives way. Call it GFC II, or something more imaginative. Everything suggests the global economy is heading towards (un)charted waters; dividend cuts are just another symptom of it.

Mat Spasic,

Junior Analyst, Markets and Money

PS: Markets and Money’s Vern Gowdie says we’re already standing on the edge of this next financial crisis.

Vern is the award-winning Founder of the Gowdie Letter and Gowdie Family Wealth advisory services. As one of Australia’s Top 50 financial planners, Vern believes there’s nothing we can do to stop what’s coming.

It won’t be only stock markets that crash when the crisis hits. There’s another multibillion dollar market that’s poised to collapse when the credit bubble pops. Australia’s gone through two such credit bubbles in its history. The third, and latest, has been building for the last 65 years. When it pops, it won’t be pretty.

The fallout of this crash could do serious harm to your wealth. Yet, with a little bit of work, you can safeguard your wealth from the worst effects of the crisis. Vern will show you how to do this in his brand new report. To download a free copy of ‘Global Financial Crisis 2016: 3 Crisis Scenarios, and How They’ll Impact Australia’, click here.

Markets and Money offers an independent and critical perspective on the Australian and global investment markets. Slightly offbeat and far from institutional, Markets and Money delivers you straight-forward, humorous, and useful investment insights from a world wide network of analysts, contrarians, and successful investors.

Leave a Reply

Your email address will not be published. Required fields are marked *

Markets & Money