"Lessons from the Gulf"

Sydney M. Williams

Thought of the Day

“Lessons from the Gulf”

June 11, 2010

The obvious lesson is that the consequences of imprudent or corner-cutting methods used to extract oil from very deep off shore wells can be exceedingly costly. While stricter regulation will obviously ensue, there is, for a business, no master quite so compelling as the one that strikes the pocket book. If this spill costs British Petroleum $40 billion, as some have forecast, then a $20 profit on 2 billion barrels would represent three years worth of oil consumption in the United Kingdom! Politicians, regulators and environmentalists can rest assured that any company operating in deep waters off the shores of rich countries are going to be far more careful in the future.

The second lesson (I am sure there are dozens, but I am focusing on this one) is that the threat of a dividend cut – urged by the President, Congressional members and others – provides a vivid manifestation of the link between Wall Street and Main Street. Dividends matter. It is easy for a politician to look at the $10.5 billion BP pays in annual dividends and become incensed. But, when one considers that those dividends represent 12% of all dividend income paid to pensioners in the U.K., they assume another dimension. Long term studies of stock market performance conclude that about half of all returns to stocks come from dividends. Eliminating a dividend – easily done to satisfy disgruntled (or even gruntled) politicians – has serious consequences, in terms of a retiree’s income and in terms of the value of his or her capital. When J.P. Morgan-Chase reduced its dividend 87% on February 24, 2009 – two weeks before the stock market’s bottom – they compounded the pain for their shareholders, who over the previous fifteen months had lost 64% of their capital. The decision to cut or eliminate a dividend should be that of the board of directors acting dispassionately, while balancing the needs of the company versus their obligation to shareholders. It should not result from ranting politicians looking to score a populist point.

From what I can gather, about two thirds of all equities in the U.S. are held in tax exempt (retirement) accounts – state, local and private pension plans, 401K accounts, IRA and other retirement accounts. They represent, for lower and middle income people, the majority of their wealth, away from their homes. The country is facing an impending crisis, in terms of Social Security and Medicare, as baby boomers face retirement. Private retirement accounts will be critical in aiding the crisis. Government should encourage dividend growth through tax policy, not discourage it via populist rhetoric.

It increasingly seems that this government is intent on disparaging any fix that does not emanate from Washington.