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Colum McKinley, senior portfolio manager, CIBC Asset Management.
The economic outlook will continue to evolve and change. We have a positive view on the economy looking into the latter half of 2021 and into 2022. Around the world as the economy reopens, you’re going to see substantial growth in GDP and a positive overall economic backdrop. And so when we think about dividends, investors are going to start to wonder about what does it mean when we start to remove some of the stimulus in the system?
The first thing I would say is that we think that that is quite far off, that the Bank of Canada and the Fed have both talked about interest rates remaining at very low levels for quite some time. But we have seen reactions in the market recently in the first half of 2021, where when we see fears about rates moving higher and we see fears about inflation, that stocks are reacting. And we’re seeing most of that reaction take place in high-multiple stocks.
For dividend-paying stocks, I think that the same principles that investors have been successful with in the past will always remain true. And so, we want to look for businesses that are high-quality companies, so that they have an ability to sustain that dividend, but also the ability to grow it over time. And so, having a company that’s well positioned in their business, they’re an industry leader, that they have a very strong management team with a proven track record, and I think balance sheets will be very important as well. So, companies that can withstand shocks — because unfortunately we will have future volatility in the economy; we will have future geopolitical shocks. And what investors should be looking for, for sources of dividends, are companies that can withstand all of that, they can navigate that. And so, regardless of what we think the environment will be this year or next year or five years from now, the best companies for dividend income are those businesses that we can buy them, we can hold them and they can compound that dividend over time.
I think a great example of that in the Canadian marketplace today is the Canadian banks. And so banks have, they have attractive dividends today, dividend yields in the 4 to 5% range. So above average dividend yields within the Canadian banks. They haven’t grown their dividends recently. They haven’t grown them because OSFI, the financial regulator, has not allowed them to return capital to shareholders. And so, what has happened during the global pandemic is that the banks have accumulated capital on their balance sheet. And so capital today is at record levels, approximately 12, 12 and a half per cent for the banks. And we think in the latter half of 2021, regulators are going to release them from that constraint. And so, banks will be able to return capital to shareholders.
The minute that they get the green light, we think we’re going to see meaningful dividend increases from all of the Canadian banks — well in excess of what we’ve seen in the past. So, we could see dividend increases in the teen-type levels, which we think is going to be quite attractive. And we’re also going to see the share buybacks as part of that returning capital story to the shareholders.
Banks are also incredibly well positioned for the opening of the economy. So, we think their earnings are going to accelerate, which again is going to lead to future dividend growth. The banks typically pay out 40 to 50% of their earnings in dividends. So, as earnings accelerate and grow faster, dividends should grow in line with that earnings growth rate.
And so, why are banks going to see above-average earnings growth? First is they benefit from a rising interest rate environment. So, we’re at record lows; we’re eventually going to see NIMs or net interest margins rise over time.
Banks have cut costs. So, they are well positioned that as revenue accelerates more of that will fall to their bottom line.
Banks — their capital markets–related businesses, both on the wealth side and the investment banking or the brokerage side of the businesses — are going to do quite well with equity and equity prices at record levels, an M&A theme that is playing out in the corporate universe.
And so, we see, when we look at the bank drivers for earnings and profitability, we see lots of tailwinds. And we see tailwinds that we think are going to last for several years. And we think it’s very analogous or quite analogous to what happened after the global financial crisis. Between 2012, 2017, there was a period of time there where banks delivered above-average returns for shareholders, and we think we’re in a very similar environment. In banks today, we think you get great capital appreciation potential, but also we think you’re going to be paid substantially higher dividends over time. And banks have been a great steward of capital for investors over the long term.
- CIBC Monthly Income Fund