High dividend yields may be attractive in the current environment, but investors need to focus on future dividend growth, not current yield, said Eric Ervin, CEO of Reality Shares. ‘If earnings continue to slide, the high yield, high payout ratio companies won’t be able to maintain their dividend and the stocks will become even more volatile,’ said Ervin. ‘Take profits now on your high yielding, low quality names, they have significantly outperformed the market. Transition those profits into stronger healthier companies with good prospects for future dividend growth.’ The Reality Shares DIVS ETF , which seeks to deliver capital appreciation based on the growth of dividends – not stock price – of large cap companies, is up 3% year-to-date. Historically, dividend and earnings growth have been fairly correlated over the long term. However, over the last few years, dividend and earnings growth have deviated significantly, and this makes sense as earnings growth is traditionally much more volatile than dividend growth, according to Ervin. S&P 500 dividend growth is around 2.5% year-to-date, while year-over-year dividend growth is around 5.6%, according to Reality Shares. 2016 should be the fifth consecutive year of record dividend payments in the S&P 500, although it may not be the sixth consecutive year of double-digit dividend growth. Ervin said the market will continue to see strong dividend growth in the information technology sector, regardless of whether or not earnings growth persists among those companies. That is because they continue to have lower-than-average dividend payout ratios and tend to have significant amounts of cash on their books to cover increasing dividend payments for years to come. The financial sector is another good place to seek dividend growth, according to Ervin, now that the nation’s biggest banks have been passing the government’s stress tests. ‘You are not going to get a massive yield out of these banks, but you are going to get earnings growth and dividend growth out of that,’ said Erwin, adding that it is also a good time to reduce exposure to over-extended, high-yielding utility stocks.
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