NEW YORK — Dividend investing used to be so easy, not to mention lucrative. But it may be set to get a lot different.
Stocks that pay the biggest dividends took a nosedive last month. Power and gas utilities — once such steady and boring payers of dividends that they were called “widow-and-orphan stocks” — posted their second-biggest drop since the financial crisis. That’s even though every other sector of the market continued to cruise higher in February.
Get ready for yet more swings, say managers of many dividend-focused mutual funds. Last month may have been a sneak preview of the volatility in store as interest rates eventually climb, and managers of dividend-focused funds have changed their playbook in anticipation.
To be sure, those same managers also still tout that dividend-paying companies tend to have more stable businesses and are profitable enough to promise regular checks to shareholders. Companies in the Standard & Poor’s 500 index paid a record $45 billion of dividends last month, according to S&P Dow Jones Indices, and full-year payments look set for a fifth-straight gain of at least 10 percent.
Even so, many fund managers are shying away from utilities and other very high-yielding dividend investments, the ones that worked best in prior years. Instead they’re focusing on areas of the market that received less attention — and fewer investment dollars — but may better withstand rising rates. The big price changes for dividend-paying stocks, up and down, are the result of a simple cause: movements in interest rates. For years, bond yields have persisted at low levels, frustrating anyone looking for income. A 10-year Treasury note had a yield of 2.18 percent at the start of the year, roughly half of what it was a decade ago, for example.
That pushed many income investors who typically would rely on bonds to pour into dividend-paying stocks with the highest yields.
Cue utility stocks, which have a dividend yield of 3.7 percent, well above the 2 percent yield of the S&P 500. When bond yields were falling, like last year, income-hungry investors piled into utility stocks and sent their prices surging.
But in February, the parade into utility stocks turned into a scramble for the exits. The yield on the 10-year Treasury rose to nearly 2 percent from 1.64 percent at the start of the month, and bonds suddenly looked more enticing.
Of course, predicting higher interest rates has been a notoriously common call along Wall Street for years. It’s also been an incorrect one. Rates have remained stubbornly low.
Some contrarians expect interest rates to stay that way given how weak inflation is, particularly with the plunge in the price of crude oil.
