keep your eye on the dividend yield

Our poor capitalist system is looking anemic these days . . .

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Capitalism is all about stocks.

The ownership of just about every corporation (except sole proprietorships) is embodied in units called stocks. The number of units is arbitrary. If the stock is going to be traded publicly the corporation tries to assign a number of units such that the price of each will be reasonable for purchase by the public.

Let’s say, based on earnings and assets, a corporation is valued at 100 million dollars. In other words, if the owners wanted to sell the whole corporation the asking price would be 100 million dollars in total. For that the new owners would get all the physical plant, real estate, inventory, accounts receivable, patents, royalties, brand recognition, and other intellectual property. But the sale would just look like a transaction of “paper.” The new owners would buy the corporation by purchasing the financial “pieces of paper” that embody the equity of the corporation — the stocks. There might be a million shares, and if each is purchased for $100, that would constitute a $100 million sales price for the whole corporation.

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When traded publicly a dividend usually is offered as an incentive to have the public buy some of the shares. It’s a way for people to benefit from the profits of the corporation. If each share pays $5 per year as a dividend and the price of a share is $100, then the dividend yield is 5%. An investor can say: “Buying that stock I get 5% return in dividends and I can benefit additionally if the price of the shares goes up.” If CDs are paying 5%, then buying stocks seems better because the return will be 5% (per dividends) and also, additionally (hopefully) capital appreciation per share.

Historically typical (“normal”) interest rates have been, in fact, around 5%. Dividend yields used to be similar. They used to (for over a hundred years) vary in a range of between 3% and 7%.

But they’ve been below 3% since 1992. Last week the SP500 dividend yield fell to 1.4% That’s crazy low. It’s approaching the crazy-crazy low of 1.2% (of two years ago).

If the return on a CD right now is 5%, then buying stocks returning 1.4% makes no sense unless you think the capital gains on share prices is going to go up from their already high valuations. Profit levels don’t indicate that at all.

So something must be going wrong with the capitalist system.