WHO STILL NEEDS DIVIDEND STOCKS?

For the last two decades, income investors have endured an environment of low interest rates. Bonds were barely investible, as many offered as little as 2% annual interest. But in 2026, interest rates surged back to a more historically normal level. With the ten year Treasury note currently hovering around 5%, does anyone even need dividend stocks anymore? 

By the Sick Economist 

For decades, most financial advisors recommended a mix of 60% stocks and 40% bonds for the average portfolio. The idea was that the 40% bond allocation provided a cushion against the extreme volatility of the stock market, while still pumping out steady, safe income payments, month after month, year after year. 

But in the aftermath of the 2008 financial crises, governments around the world embarked on a bold experiment: central banks reduced interest rates to unheard of lows, with some bonds in Europe actually going to 0% or even negative interest rates. In the USA, it wasn’t uncommon to find ten year Treasury notes yielding just 2%. The idea was to encourage borrowing in society, with the idea that increased borrowing would stimulate increased economic activity. The side effect (which some believe was really the actual target effect) was to force even the most reluctant investors into stock investments. The low interest rates of the last two decades caused a historic stock boom; after all, the government basically took away all competition for the stock market by making bonds very unappealing. 

In this environment, income oriented investors were forced to purchase dividend stocks. Many American corporate stalwarts, big names like Pfizer, IBM and Dow Chemical were paying dividends of 3, 4, or even 5%, which made them an obvious choice over bonds that were paying just 2%. Instead of the traditional 60/40 allocation, many investors wound up with an allocation of 80% or more to stocks, with dividend kings acting as bond proxies. 

Apples To Oranges #1

Faced with extreme market conditions, investors simply made due. For many, a regular paycheck from a legacy company like Johnson&Johnson was just as good as the bond interest payments they would have received in decades past. 

However, “similar” does not mean “same.”  While investors were still able to live off of passive income, the income received from dividend stocks was never the same as bond income. Understanding a few key differences is crucial to crafting an asset allocation for today’s more normal financial conditions. 

The first difference to understand is to accept the plain meaning of the phrase, “fixed income.”  Fixed income is typically used as a synonym for bond investments. People often throw around the phrase without really considering its meaning. 

“Fixed income” really does mean fixed income. In other words, if you buy a bond for a duration of 5 years, 10 years, or 30 years, the payments that you are promised at the outset are the payments that you will be receiving for the entire life of the bond. If you buy a 30 year bond that pays you $100 every six months, then that is what you will be getting for the next thirty years. Period. 

Dividend income, however, can be dynamic. Most CEOs of publicly traded companies wake up every morning with one word, and only one word, on their mind: growth. A CEO of a publicly traded company is typically rewarded or punished based on how much growth she can create for the company that she manages. And growing annual profits means growing annual dividends for the company’s owners. If you own stock in a dividend paying company, you are that owner. 

Let’s look at the pharmaceutical giant Merck as an example. Here you can see the income you received every year if you invested $1,000 in a bond, or $1,000 in the stock. You can see, the “fixed income” is indeed fixed, while the dividend grew by 125% over a roughly twenty year period. 

It’s critical to note that your ever growing income from ownership of Merck came, in addition to the share price growth. If you had bought Merck stock in 2008, you would have paid roughly $30. Today that same share of ownership is worth about $150. So, with share ownership, you wound up with the same income as your bond, and you also quintupled the value of your shares. 

We could display any number of charts like this. The number one mandate of any CEO is growth; you participate in that growth if you are a shareholder in the company. If you are a bondholder, you just get a fixed payment, and that’s it. 

Apples To Oranges #2 

The second way in which “similar” does not mean “same,” is the taxation situation of dividend stocks vs. bonds. Most bond income is taxed as regular income. This means, taking into account only Federal income tax, high earners can be taxed up to 37% on bond income. Meanwhile, dividends are considered as capital gains. As long as you hold the stock for more than one year, your maximum taxation rate on that income would be 23%. And even that rate would only be for very high earners. Most investors will never see their dividends taxed at more than 15%. 

And that is only if you consider just the income portion of the investment. With the Merck example above, only the dividend income is taxed. Your quintupling of the Merck stock price would not be taxed at all, until you sell. (As of right now, the IRS does not tax assets, only income). 

So, depending on your long term goals and point of view, you might view your total Merck investment as paying less than 10% tax total, while the benefits from a Merck bond will be hit with ordinary taxation every time (up to 37%). The exception to this rule is municipal bonds. Municipal bonds are federal tax free; the Federal government wants to encourage you to lend money to local governments. 

Pros&Cons

The extra income and growth that you receive from holding dividend stocks over bonds is not always free. In the Merck example above, the stock went through several dry spells and scares, where the stock dropped precipitously or just didn’t gain for years at a time. The path from $30 to $150 was not straight, predictable or steady. Whereas bond investors got their interest payments with clock-like predictability, year after year, decade after decade. So Merck shareholders got much more growth, but bondholders got much more predictability. 

In our Merck example, a bond purchased in 2008 was yielding 5.75%. At that price, investors carefully needed to weigh out the pros and cons. Keep in mind, at some point during the interest rate drought of the last two decades, Merck was issuing bonds with interest below 1%. At that pitiful interest rate, it wasn’t really a debate: stock investment was the only reasonable answer. But now, rates are closer to the 2008 level of 5.75%. Once again, investors have two options. 

With strong, steady payments back to 5.75% or greater, do investors still need to take on the risk and potential volatility of dividend stocks? The answer, as always, is,    “it depends.”  Each investor is different, with a diverse range of considerations. Ten different investors might be best suited by ten different allocations. But here are some key questions to consider….

• Age. Younger retirees need a growing income to keep up with inflation. If you are retiring at 60 (or younger) you could have decades of inflation ahead of you. In that case, you need the dividend growth that companies like Merck can provide. 
• Personal volatility tolerance. At times Merck fell as much as 25 or 30% in a year. Some investors would have barely noticed, or noticed and not cared. If you get scared or stressed easily, you are better off with a larger bond allocation. 

• Income levels and feelings about taxation. If you have relatively subdued levels of income ($200,000 or below), paying ordinary taxes might not matter that much for you, as you aren’t in such a high tax bracket. If you have a very high income already, or you particularly detest paying taxes, you would probably prefer the tax efficiency of dividend stocks. 

These are only some of the relevant considerations. If anything, for today’s investors “our cup runneth over.” Just a few years ago, with bonds paying next to nothing, we really had no choice. Now we are at an all we can eat buffet of delectable investment options. A solid allocation plan, with your particular needs taken into account, will make sure that you don’t wind up with heartburn.