Investors tend to go from one bad situation to another. Take, for instance, Wall Street, which has been riding high since the more than a 30% plunge it took last March following the early days of the pandemic and lockdowns.
And after fully recovering in August from all of those initial losses, the Dow has been setting record after record – much of it due to all free money flowing from stimulus checks.
Lately, cracks have been appearing in Wall Street’s veneer. Warnings of inflation from Warren Buffett to Blackstone’s Byron Wien have caught some investors’ ears – with many scrambling to hedge against inflation and a potential market correction.
This past year has seen a surge in day trading as lockdowns and free money have piqued the investment interest of millions of new investors taking advantage of free time, free money, and the free trading platform Robinhood. Chasing home runs, investors have jumped in and out of stocks to time the market for that big payoff.
However, with the winds of change in the air, some speculators are considering a more conservative approach to investing to fight inflation and hedge against a market correction.
Where are former capital gains hounds looking to hedge against inflation and a market crash? Dividend Stocks.
Why isn’t jumping into dividend stocks a good idea as a hedge against inflation or a market crash? Dividend stocks are neither good at hedging against inflation or against a market crash.
When a market correction looms on the horizon, investors stop chasing capital gains and start seeking income. The thought is that steady income from dividends will help them weather the storm of inflation and a market crash.
There are two problems with dividend stocks:
- The yields of even the top-paying stocks fail to keep up with inflation.
- Dividends are not guaranteed.
When investors jump the capital gains ship into the dividends raft, their go-to dividend stocks are the so-called Dividend Aristocrats, the name given for the 51 stocks that have hiked their dividends for 25 straight years or more.
This group of darlings, or the golden child of Wall Street, are not at all what they are cracked up to be. Don’t be fooled by the 25 straight years of dividend hikes, mumbo jumbo. Twenty-five consecutive years of $0.01 annual hikes will keep a Company on this Aristocrat list, and that is exactly what many of these companies do. They know investors’ first option is the Aristocrat list, and they’ll do the minimum to stay on that list.
Are these dividends any good? No.
The ProShares S&P 500 Dividend Aristocrats ETF (NOBL), which holds all 51 Aristocrats, yields a paltry 1.9%. Inflation has averaged 3.1% in the past 20 years. In the past year, it has jumped to 4.2% and is expected to jump even more.
Is 1.9% a good hedge against 4.2%, 5.0%, 5.5% inflation? Not at all, which takes us to the second problem with dividend stocks.
Dividends are not guaranteed. A 1.9% is bad enough, but that’s assuming the dividends get paid at all, which is no guarantee. Companies have full discretion to adjust their dividend policy and cut dividends – even suspending them altogether.
For example, a certain utility with a long history of paying dividends stopped for four years while its stock fell from the $30s to around $5 between 2001 and 2002. In addition, banks and many other companies slashed dividends during the 2008 Financial Crisis.
If not dividends, then what for hedging against inflation? Invest in goods and services that keep pace with inflation – assets that are always in demand.
People will always need shelter, food, transportation, fuel, and medical care. With essential goods, their prices generally keep pace with inflation without a dent in demand. It’s these assets investors should consider – not dividend stocks.
In addition, an asset that appreciates as well as provides reliable income during times of high inflation offers a double hedge against rising prices investors should seriously consider allocating to their portfolios immediately.
Kyle Jones is a co-founder and Key Principal of TruePoint Capital, LLC. Kyle is responsible for the company’s strategic planning, investment decisions, asset management, and overseeing all aspects of the company’s financial activities, operations, and investor relations.
Kyle obtained a Bachelor of Science degree from Texas State University – San Marcos, where he also played Division 1 Baseball.