I always talk about the importance of benchmarking your performance vs the index and I really think that doing this with a dividend is no different. In fact, it’s debatably even more important! So, that begs to question – what is the S&P 500 yield?
A quick google search will show you that the yield is actually about 1.77% right now, but that’s now what I’m necessarily talking about! Sure, the current yield is extremely important, but as always, we need to get much more into the numbers than that!
Personally, I almost view the term “yield” as the total return that an investment might generate. In the case of the stock market, that is simply the share price appreciation + dividends.
Sure, a stock might pay a dividend yield of 8%, but if the share price declines 5% then you only made 3% in total. Sure, 3% is still 3% more than you would’ve made otherwise, but it’s 8% less then the Stock Market average since 1950.
Below is a chart that I put together to breakdown the average return and the average yield since 1928, 1950, 1975 and 2000:
I really like to look at this type of data because I find that it gives me a great perspective when I am looking at my investments. I have talked in the past about how when I am able to benchmark my performance vs an index like the S&P 500 then it helps me be a rational investor, so this is incredibly important to understand!
So, along with benchmarking your performance, what else can this data tell you?
Well, for me personally, the #1 thing that this data helps me do is to plan for the future.
I am a sucker for constantly putting different values into a compound interest calculator just to see how it might impact my retirement goals. I feel like by doing this, I am able to constantly keep it top of mind and make sure that I’m staying on track.
I mean, let’s do a quick example – let’s assume that I have $0 and I want to retire in 30 years by maxing out my Roth IRA every single year at $6K. How would that look in 30 years?
Well, there’s one main variable left – the annual rate of return! Of course, there are other things that could impact the real value of your money such as inflation (historically is right around 2.5%), but we can address that later!
For the purposes of this exercise, I always like to use the S&P 500 return as that is a return that anyone can achieve by investing in an ETF like SPY, but that can still vary drastically from year to year as we see in that chart above.
Let’s just check out a few of them:
Pretty big disparity, right? Depending on the time period that you’re looking at, the return in 30 years can be anywhere from having $1.5 million to $528K – literally a swing of a million buckaroos!
That’s a huge difference and one that can absolutely wreck any sort of financial goals if you’re not planning for them.
Personally, I think this is absolutely terrifying. I have always planned my financial goals by using 8% as an annual return rate thinking that this was a super safe number but actually, in the last 19 years, I might’ve been using a number that was actually aggressive rather than conservative.
I had always based it off of an 11% CAGR since 1950, and then by using only 8%, I felt like I was adding in some safety for inflation and if the returns didn’t actually hit that 11%, and it turns out recently that they haven’t been hitting that.
If you’re familiar with the 4% rule, then you know that in concept, you can essentially take out 4% of your investments and basically live forever on that without ever having any fear that you were going to run out of money.
While I do think that the history shows that the 4% rule work, it would be really hard to actually put my money where my mouth is and retire early solely based on that 4% rule and no biffer, but I 100% use it as a rule of thumb for planning purposes.
So, in other words, I’m basically trying to back into my retirement number by taking my assumed annual expenses (say $50K), meaning I would need $1.25 million to retire (1.25 million*.04 = 50K). Then, I simply will use a compound interest calculator to estimate how long it will take me to get to that $1.25 million goal.
It’s nothing more than an estimate, but it is super helpful for planning purposes to keep me on target with something that I can continuously work towards.
One thing that I have noticed is that a lot of times when people are comparing their performance, or even a potential future investment, vs. the S&P 500, they seem to very quickly forget that the S&P 500 also has a pretty decent dividend yield, so please make sure that you’re accounting for that in any analysis that you’re doing.
I mean, even if you were going to use the 4% rule and 100% of your money was invested into an S&P 500 ETF like SPY, then you’d already be getting 1.77% of that 4% that you need simply be the dividend payment.
But the most important thing, at the end of the day, is to look at the total yield! I feel like you are now equipped with all of the information to make a well-informed decision for the rate of return that you should use for planning purposes.
I mentioned that I used to use 8%, and honestly, I think that I might keep it at 8% for now but add the caveat that I need to pay closer attention to it. I like my odds of outperforming the market and I feel like in 2000-2019 we have been hit awfully hard by quite a few different crashes that might not necessarily occur in the future.
But like I said, I am keeping a very closer eye on it!
If you’re reading through this and a little discouraged by the dividend yield of the S&P 500, then checkout VOO, a high dividend yield ETF that might be exactly what you’re looking for!