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Dividends in a period of low inflation
With inflation at low rates for the best part of the last decade, and few commentators forecasting that this will change significantly, share dividends should play an important role in total return in the future.

During the boom time for share markets in the 1990’s, dividends represented a small part in total return on equities. Dividend yields were under 3% whilst total returns averaged 15%. This is a substantially smaller ratio than prevailed in previous periods – published research indicating nearer 60% of return is typically due to distributed income.

Although the market as a whole is unlikely to get back to those ratios (amongst other reasons a substantial number of newer companies do not see dividends as important) we believe it is time to reappraise the significance of dividends as part of total return.

With the long term inflation rates forecast at 2.5% annually, and a similar rate forecast for real growth in the UK economy, then with a constant share of profits in the national economy, we would expect the long-run capital return of the market to be 5%p.a. With dividend yields at around 3.5%, this implies some 40% of total return is coming from distributions.

It is important to note that the same economic considerations lead us to believe that dividends will grow by around 5%p.a. The past few years have seen payouts fall, but over the last year there is evidence that there is resumption in growth. See “No more Cut Dividends?”.

© Dividend Analysis, 2004