Slow and steady may win the race, especially on a sloppy track

It has been a nice time to be a dividend investor. Clients and colleagues seem complimentary. Few, if any of those interlocutors ask about the actual dividends. Like almost all market participants, they are fixated on a near-term total return — the stock market game. That's one approach.

What can be behind this run of good fortune for dividend investors? Instead of typical stock market factors, I see something simpler: investors are embracing the opportunity for greater certainty in a period of high absolute uncertainty. In finance terms, this is often expressed as variance of outcomes. In the 1950s, Harry Markowitz, the founder of modern portfolio theory, laid down the law: Investors should prefer a low variance of outcomes. He observed that, for investors of his day, a modicum of diversification reduced variance of return without reducing expected return. It’s a nice insight, and at the time, it was quite true.

Low-variance investment goals have been out of favor for decades. Instead, most investors and much of the market are given over to high volatility with a wide range of potential outcomes. That’s genuinely reflective of America’s innovation engine, and it is as it should be. But not for everyone, not all the time. Some of us, both as investors and individuals, for good reason prefer a steadier, less extreme experience, even if it means periods of lower relative total return.

The core goal for me is to make decisions in which the range of outcomes is narrower. It is akin to aiming for singles in a baseball game instead of swinging for the fences. In the stock market, that can take the form of being highly dividend-focused because:

• Dividends generally move around a great deal less than share prices. Forecasting them involves … less variance. Put another way, cash returns (dividend payments) have a dramatically lower standard deviation than contingent returns (unrealized capital gains).
• Dividend-oriented companies tend to be in mature, stable industries. That means forecasting dividend growth involves … lower variance. I might forecast a 4.5% growth rate of a dividend over the next five years. As a practical matter, it may end up being 5% or 4%, but the overall portfolio’s dividend growth rate ends up in a very tight range.
• Dividend payments are business outcomes. Share price movements are market outcomes. (See The end of business ownership.) Assessing individual company prospects compared to market movements involves …. less variance.

In a period when geopolitics is amplifying variance at each level, this more conservative approach garners investor support. “Slow and steady can win the race … especially when the track is sloppy.” That is my explanation for what’s going on at present. When the world is this complicated, one response is not to become a better forecaster of the big things, but to shrink the decision set to things you have a better shot at getting right. That is the logic of lower-variance investing.

The more conservative approach will lag in euphoric, momentum-driven markets. That is so, but for many investors — especially those in or near retirement — the ability to sleep better at night is an investment objective equal to or greater than “beating” the market.

So where do we go from here? If you believe we are just one press conference or tweet away from Peak Uncertainty, and that the future is about to become much clearer and more stable, then dividend-focused investing for near-term capital gains will not do. But if you have reason to believe that some large measure of geopolitical, economic, and market uncertainty is likely to remain, well then, being an engaged dividend investor may have some sustained utility, above and beyond the actual dividends received.

As for me, I am a bit like the weary Candide after traveling the globe searching for the best of all possible worlds. I will continue to structure my decision making around low-variance activities. I cannot just tend my garden on the shores of the Bosporus, as Candide did, but I will try as much as the banks of Pittsburgh’s Monongahela River will permit.