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Why growth investors can’t afford to ignore dividends in the 2020s

ASX investors focused on growth investing usually have a disdain for dividends, but this attitude could prove to be a costly mistake as we look ahead into the new decade.

Investors chasing stocks with big earnings growth potential do not want management to siphon off profits for dividends. They prefer to see all the cash generated be reinvested in the business to expand and drive further earnings growth.

After all, any company that can hand-back a chunk of cash to shareholders doesn’t technically fit the definition of a high-growth stock.

Why growth investing needs a dividend twist

There is nothing wrong with this strategy. Growth investing has proven to be a lucrative way to generate returns over the last two years – and tech stars like Afterpay Ltd (ASX: APT) and Appen Ltd (ASX: APX) prove this point.

But I believe that growth investors will need to pay some attention to dividends in the new decade as the investment landscape has changed from the previous period.

Growth investors may be surprised to learn that most of the share market gains in the 10-years starting from 2010 came from dividends and not capital appreciation.

Most gains come from dividends

The analysts at Macquarie Group Ltd (ASX: MQG) found that 59% of total returns from the S&P/ASX 300 (Index:^AXKO) (ASX:XKO) index came from dividends in the past decade. Earnings growth and price-earnings (P/E) expansion contributed around 20% each.

I am expecting this trend to be sustained (or even accelerate) as we move into 2020 and beyond!

This is because the medium-term macro outlook isn’t particularly conducive for growth, while low interest rates around the world will make dividends well sort after commodity by investors.

Tweaking the growth strategy

This doesn’t mean you should abandon growth investing. For sure, we will see another shooting star emerge over the coming years.

However, only holding ASX stocks that do not pay dividends would be a mistake, in my view. Growth investors should add stocks with both good earnings growth potential and dividend distributions to their portfolio.

Best performers of past decade

And if you are wondering which ASX stocks were to top performers of the last decade, Macquarie says its blood products maker CSL Limited (ASX: CSL) and gaming group Aristocrat Leisure Limited (ASX: ALL).

Both stocks generated total returns of around 800% each, but they’ve outperformed for different reasons.

“Both grew EPS more than 10x the market average. But multiple expansion was a larger contributor for CSL than ALL,” said Macquarie.

“Nearly two-thirds of CSL’s TSR was due to a higher PE, which rose from 15.9x in 2009 to 37.8x in 2019. In contrast, less than one-fifth of ALL’s TSR was due to PE expansion (and ALL’s PE is still below Industrials x-banks/REITs).”

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Brendon Lau owns shares of Aristocrat Leisure Ltd. and Macquarie Group Limited. Connect with him on Twitter @brenlau.

The Motley Fool Australia's parent company Motley Fool Holdings Inc. owns shares of AFTERPAY T FPO and CSL Ltd. The Motley Fool Australia owns shares of and has recommended Macquarie Group Limited. The Motley Fool Australia owns shares of Appen Ltd. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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