It sounds like a bad April Fool's joke on self-funded retirees and income investors. Dividends across the S&P/ASX 200 Index (Index:^AXJO) (ASX:XJO) could be cut by a third or more.
But that's only one half of the bad news. We are going to get a double cut from an expected pick-up in capital raisings too.
The warning comes as an increasing number of ASX companies cancel or defer their dividend payments due to the COVID-19 pandemic.
Necessary evil
We could be feeling the deep dividend cuts for a year, according to wealth manager AMP Limited (ASX: AMP) and reported in the Australian Financial Review.
It's a case of short-term pain for longer-term pain – at least for those fortunate enough to not rely on dividends to pay for living expenses.
Companies that can pull through to the other side will be in a better position to grow earnings and dividends again, particularly if their weaker rivals fall over.
Double-blow for investors
But as I mentioned, what will add salt to the wound is that the dividend cut culprits are the ones most likely to come knocking on their door asking for spare change.
The ASX Ltd (ASX: ASX) is expecting this. Our share market operator issued a compliance update yesterday and is proposing to implement temporary emergency capital raising measures.
This is to make it easier for cash-strapped companies to rattle the can as it eases restrictions on such activities for a short period of time. You can expect several ASX entities to be taking advantage of this.
How capital raisings can hurt
Investors are impacted in two ways by companies selling new shares to get a capital injection. If they don't participate in the cap raise (and it is your right to say "no"), they will be diluted. The shares they own will constitute a much smaller percentage of the total shares on issue post the raising.
The other issue is shareholders will be entitled to a smaller dividend for each share they own – at least until the company grows earnings enough to boost their dividend payment. That's unlikely to happen for a while yet.
Dividend stocks to watch
This is why it's dangerous for investors to be using the trailing dividend yield of a stock to make their investment decision. These stocks are probably sitting on yields that are well in excess of 10%. Many will turn out to be yield traps, including those that have been a favourite of income investors.
Such stocks include toll road operator Transurban Group (ASX: TCL) and the big banks like Westpac Banking Corp (ASX: WBC) and National Australia Bank Ltd. (ASX: NAB).
The silver lining is that I think the dividend cuts are already reflected in the share prices of the big banks.
On the other hand, I believe some stocks are better placed to hold their dividends during these uncertain coronavirus plagued times.
These include Telstra Corporation Ltd (ASX: TLS) and the big iron ore producers like Fortescue Metals Group Limited (ASX: FMG).
