Cause and Effect

Must be my week for female financial commentators.  Flipped through Time or Newsweek (can't remember which) and stopped at Jane Bryan Quinn's column.  She's been around so long they took her picture off the heading but Capital Ideas caught my eye anyway.  I actually miss the picture.  Jane looks pretty hot and makes more sense anytime than Suze Orman but I'm off point.  Jane screams out that --

Dividends Matter! 

Holy smoke!  Get a hold of yourself, Jane. 

Seems Jane has figured out that the Dow 30 "is hitting new highs while the broader market lags.  All the Dow stocks pay dividends.  Of the companies in the S&P 500 stock average--representing most of the market--only about three-quarters do." 

Then she goes on to tell her dunce readers what a dividend is and then these mildly interesting statistics--the Dow on price ONLY is up 2% since its 2000 high but including dividends and price the Dow is up 17.1%.  Seems a bit high to me but I'll take her word for it.

Because it doesn't really matter.  Jane misses the point.  She doesn't answer the question or even ask the question--Why Are Dividend Stocks Up In Value?  This is the real issue.

Dividend paying stocks are in vogue or back in favor because the tax rate on dividends was cut from the marginal rate which could be as high as 38.6% to 15%. 

C'mon Jane, you should have figured this out.  If she had gone to business school anytime in the last fifty years up to 2003 she would have been taught DO NOT PAY DIVIDENDS.  Finance majors have this stenciled on their foreheads.  Why?

Because dividends are subject to double taxation.  Or were.  Actually they still are but at the lower rate to the stock owner of 15%. 

I'm trying to keep this simple here, believe me.  First, the company would pay taxes on the income because dividends are paid out of after tax income.  Tax Number 1.  Then the stockholder gets his/her dividend and is taxed again.  Prior to tax reform the shareholder paid tax at the taxpayers highest marginal rate--the 38.6%.  Tax Number 2.  The new law caps the tax at 15%.

So what is the lesson?  Lower the tax rate and dividend paying stocks shine.  In fact, the whole stock market shines though less in some places than others.

Only Congress may take away the punch bowl just when the party gets going.  Tax reform is scheduled to go away, disappear, dissolve into nothingness in 2010 unless Congress makes the tax cuts permanent.  Watch out for that one.