Confidentially, Why Does Warren Buffett Favor Dividends and Buybacks?

Stock returns come from dividends and capital appreciation, with capital appreciation influenced by earnings and valuation. Therefore, from a long-term investment perspective, stock returns can be decomposed into three components: dividend and buyback returns, stock valuation, and corporate earnings.

Professor Todd Finkle, an entrepreneurship professor at Gonzaga University who is writing a biography on Warren Buffett, summarized Buffett's investment interest as "dividends and buybacks." The foundation of value investing lies in traversing cycles and dividend growth.

As a representative of mature stock markets, the US has developed a robust and diversified investment return mechanism. This is a significant reason for the long-term bullish trend in the US stock market.

Over a period of more than 30 years since the early 1980s, even after experiencing major crises such as the dot-com bubble in 2000 and the financial crisis in 2008, investing in US stocks has still yielded considerable returns. Dividend income occupies a crucial position in this regard, as evidenced by the difference in long-term performance between the S&P 500 Total Return Index and the S&P 500 Index. The S&P 500 Total Return Index adjusts the S&P 500 Index by including dividend payments from its constituent stocks. The cumulative return of the adjusted S&P 500 Total Return Index has exceeded 25 times, while the return of the S&P 500 Index is only 12 times.

Furthermore, the longer the investment horizon, the greater the impact of dividend income on stock asset returns. In the long run, dividend income and its reinvestment contribute to nearly half of the total returns of the S&P 500.

From the perspective of dividend yield, the overall stability is relatively high, although there are differences among different industries.

In the US market, listed companies have a relatively high dividend payout ratio, usually ranging from 40% to 50%. Cash dividends are the primary method of dividend payment by companies. At the same time, the dividend yield ratio is relatively stable, indicating a synergistic increase between company market value and dividends.

Although the dividend yield ratio experienced a decrease during the dot-com boom in 2000, as market valuations surged, and an increase during the 2008 financial crisis, as market valuations declined, overall, the changes were not significant. In 2013, the dividend yield ratio remained at around 2%, similar to the level in 1990. Compared to the unstable dividend payments in the A-share market in China, the US market can be considered "rock solid."

When we look at the breakdown, the dividend payout ratio reflects strong industry attributes. Industries that have relatively stable demand for their products or services, ample cash flows, and moderate growth in capital investment tend to have higher dividend payout ratios. For example, in the past three years, the average dividend payout ratios in the US utility and telecommunications sectors have been as high as 80% and 68%, respectively, exceeding the industry average of 37%. On the other hand, technology companies, which require intensive capital investments and experience greater profit fluctuations, tend to have lower cash dividends. Therefore, the information technology industry has had a dividend payout ratio of only 24% in the past three years.

In the US stock market, taking the Dow Jones Industrial Average (DJIA) and the Nasdaq Composite Index as examples, the DJIA, which consists mostly of blue-chip stocks, has higher total dividend amounts and historical dividend yields compared to the Nasdaq index.

Share buybacks directly increase the demand for a company's stock, leading to an increase in stock price and higher earnings per share (EPS). Therefore, in addition to traditional factors such as profit growth and valuation improvement, a crucial factor in the United States is the substantial amount of share buybacks conducted by listed companies. In the past decade, the amount of share buybacks by US-listed companies has surged, with the buyback amount sometimes exceeding half of the total net profit.

the dividend yield, which considers both dividends and buybacks as a measure of cash flow return to shareholders, serves as an important indicator for assessing investment opportunities. Companies with high dividend yields generally provide steady returns to investors. However, it is important to note that stock selection should not solely rely on the current dividend yield. It is necessary to also evaluate the company's future prospects, including its ability to maintain the current dividend policy and profitability over the long term. Additionally, it is crucial to analyze why a company is undervalued and whether the market has accurately reflected its true value. Failing to consider these factors may lead to falling into the trap of static "high dividend yield" investments.