Could high dividend and share buyback stocks offer a margin of safety?

Could high dividend and share buyback stocks offer a margin of safety?

Here are the top reasons why we believe high-dividend stocks and those with substantial buyback programs offer excellent value and provide the visibility investors are eagerly seeking.

In a nutshell, why invest in stocks with high dividends and / or share buyback?

• Supportive economic environment with strong corporate earnings and focus on cost management, resulting in higher company profits.
• The current historically high interest rates create new higher return expectations for investors, notably in the form of known or distributable cash flows.
• Returning cash to shareholders and the associated returns ‘visibility’ is looked-after.

Major reasons to invest in stocks with high dividends and large buyback programs:

1. Positive historical track record

Historically, companies with high dividends and share buybacks have done well.

High dividend companies have a phenomenal track record on average. In the last 30 years, dividends have accounted for approximately 40% of total equity returns; a large percentage that illustrates the strengths of companies paying regular (and growing) dividends and their corresponding attractive returns in the long term.

Chart 1: Dividends have accounted for approximately 40% of total equity returns in the last 30 years (MSCI World).

Sources : BNP Paribas (Suisse) SA, Bloomberg data.

Secondly, investors may want to take a second look at stocks doing significant share buybacks.

As Warren Buffett famously wrote: “Buybacks were a tipoff that the company was undervalued and run by a shareholder-oriented management” (as per Berkshire Hathaway’s 1999 shareholder letter, available here www.berkshirehathaway.com/letters/1999htm.html).

2. Strong Outlook

Companies are nowadays globally focused on maintaining profit margins, and in turn their free cash flows.  The high inflation rates that followed the global pandemic caught many companies off guard. But now, inflation and cost control are on top of everyone’s mind. So is the idea of returning capital to shareholders through share buybacks and dividends.

The total spending on buybacks for companies of the S&P 500 is predicted to surge 13% in 2024 and 16% in 2025, according to Goldman Sachs Global Investment Research (dated March 2024).

Europe is coming out as more attractive for dividends, with 40% of European companies having a dividend yield above 4%, with just 15% in the United States.

3. The successful case of Apple

Apple is a successful case study of a company having consistently bought back its shares and distributed dividends, using its strong free cash flow and balance sheet to do so.

Throughout the years, Apple returned USD761 billion to shareholders, of which:

-          USD 618 billion in the form of share buybacks;

-          USD 143 billion in dividends.

Chart 2: The successful case of Apple returning cash to shareholders.

Sources : Asymco, September 2023.

Often, when a company decides on a share buyback strategy, it continues to do so for a long time, as illustrated above.

Apple, on May 2^nd, announced USD 110 billion in authorized share buybacks. The amount is still relatively contained in comparison with Apple’ market cap of USD 2.9 trillion. For comparison, our focus is on companies doing much more significant share buybacks relative to their market cap.

In conclusion, the current environment marked by reasonable earnings growth and focus on profit margins remains compelling for stocks. And particularly so for stocks with high dividends and substantial share buyback programs, in our view, as these offer investors greater return visibility. It also may act as a signal to investors that the company’s management is laser focused on returning capital to investors.

Nonetheless, there are risks involved, and due diligence is always necessary to ensure that a company is not withdrawing cash at the expense of jeopardizing its core business.

This article is brought to you by the Advisory Solutions Team. 
Contributors: Maxime Bonnet - Head of Advisory Solutions, Paul de La Baume - Investment Advisor