Dividends in 20 years

I found a couple of pieces published recently interesting - both related to dividends. It also gave me a bit of a nudge to dig into something I'd been meaning to look at for a while, modelling the sort of income I might expect from dividends in 20 years.

But first to the publications:

The Janus Henderson Global Dividend Index was published earlier this week which had a few interesting snippets. Dividends grew at a slower rate recently, caused by a slowing global economy, lower earnings, and therefore a slower rate of dividend growth. Also notable that once special dividends are stripped out of UK payments, they view the UK dividend growth as lagging global averages. I guess this may partly be due to the composition of the FTSE 100, which has a significant proportion of large banks, oil, and mining businesses (as I noted here), which are unlikely to find it easy to consistently grow their profits and therefore may struggle to consistently increase their dividends.

Morningstar published their latest thoughts on their Top 20 FTSE Dividend Paying Stocks. I like this treatment by Morningstar as it is more considered than most "Top dividend payers" lists, however it could look very different if risks were factored in, with tobacco companies transitioning away from cigarettes, fossil fuel businesses needing to transition to renewable energy, and industrials potentially at the eye of a storm if the global economy continues to slow. And of course the chaos that might ensue should Corbyn get the keys to No. 10 Downing Street.

So to the spreadsheets...

Income Modelling
In 20 years what income will I receive from dividends? As with any modelling it is a simplified version of reality, so I'll need to make some assumptions:

• Timeframe = 20 years
• Amount invested each year = £10k
• Starting dividend yield = 3%
• Annual dividend growth = 5%

Lets assume I get to invest £10k each year for the next 20 years, and a starting dividend yield of 3%. The £10k is a nice round number, and 20 years is roughly the timeframe I'm looking at before starting to cash in investments.

FTSE 100 and All Share index funds offer over 4% dividend yield, the S&P 500 is around 1.5%, my personal portfolio is approaching 3% so I've gone with a starting yield of 3%.

The Janus Henderson dividend growth rate globally for Q3 2019 was 2.8%, but longer term they reckon over 5% is more likely. Lets assume a slightly conservative 5% dividend growth.

I'm ignoring inflation, and insisting on a rather static model that has dividends set at 3% for the first year of investment in each year, and static increases of 5% per year. A more realistic model would be a bit more complicated, but not impossible - I think this is enough to be getting on with 😊.

And of course all the cash received as dividends will be reinvested. As I'm interested in modelling the income, I'm not considering the capital.

Since the dividend yield will grow at 5% per year, the yield will be (rounded to 2 decimal places):
year 1 = 3%
year 2 = 3.15%
year 3 = 3.31%
year 4 = 3.47%
.
.
.
year 20 = 7.58%

In it's first year, any investment will have a 3% yield, but by year 20 the yield will be 7.58%, so a £10k investment in year 1 will generate £300, the same £10k in year 20 will generate £758.

My investment in year 2 will only have 19 years to grow it's dividends, and starts with the same 3% in it's first year. However, it is boosted by the £300 from year 1. So the total new capital invested in year 2 is £10300 (£10k + £300 dividends). At a 3% yield, this returns £309, and in year 2 my £10k invested in year 1 now generates a 3.15% yield, £315. So year 2 total dividends are £624.

In year 3 I invest another £10k, plus the £624 above, and at a 3% yield, I get £318.72 in dividends. I also get £324.45 from the £10300 invested in year 2, and £330.75 from the £10k invested in year 1. Therefore year 3 total dividends are £973.92

By year 4, we can start to see the magic of compounding in action. The total dividend return assuming I had reinvested all prior dividends would be £1351.83, if dividends were not reinvested this would be £1200, more than 12% difference in just 4 years.

So in answer to my original question, what income will I receive? Using the above assumptions, it would be £13055.57, which on an investment of £200k is a yield of 6.53%.

There is a google sheet here where the assumptions of starting yield, growth rate and annual capital are shown, feel free to download a copy if it is of any interest.