Tech Sector Can Offer Equity Income

Key Takeaways

• Information technology companies are contributing more to support the dividend yield for the S&P 500 Index than any other sector.
• There are approximately three dozen tech companies across the market cap spectrum that have raised dividends for at least seven consecutive years providing investors with stability. Many of the companies, including Lam Research (LRCX) and Microsoft (MSFT), are considered as high quality and are attractively valued to CFRA.  
• The ProShares S&P Technology Dividend Aristocrats ETF (TDV) offers diversified exposure to income-generating technology stocks and can be used to provide sector balance to other dividend-growth ETFs.

Fundamental Context

Information technology is thought of as a growth sector, but it has grown up to offer appealing dividends too. The S&P 500 info tech sector sported a modest 0.78% dividend yield at the end of 2021, approximately 50 basis points less than the broader market and far less than traditional dividend-oriented sectors, such as real estate (2.24%), consumer staples (2.40%) and utilities (2.94%).

However, not only did 44 of the sector’s 76 constituents pay a dividend, nearly all either raised their dividend or initiated one in 2021, according to S&P Dow Jones Indices. Such dividend growth helps explain why the S&P 500 information technology sector was the largest payer of dividends, contributing to more than 17% of the overall income for the broader index in 2021, ahead of health care (15%), financials (14%) and consumer staples (11%).

Meanwhile, dividends were not just being offered by large caps. There were an additional 37 information technology companies in either the S&P 400 MidCap Index or S&P 600 SmallCap Index (31% of the constituents) paying a dividend at year-end.

Sector Contributions To S&P 500 Indicated Dividend Rate (%)

Source: S&P Dow Jones Indices. As of December 31, 2021.

The S&P Technology Dividend Aristocrats Index consists of mostly information technology companies that have raised dividends for at least seven consecutive years. The index, which is tracked by the ProShares ETF TDV,  comprises 40 stocks, including mega caps, such as Apple (AAPL) and MSFT, and small caps, such as Badger Meter (BMI) and CSG Systems (CSGS). Relative to the S&P 1500 information technology Index, the Technology Dividend Aristocrats Index is less concentrated and has strong fundamentals.

For example, while the dividend index had less than 20% of the number of positions of the broader sector index, the combined weighting of the top 10 constituents was recently less than half (32% versus 66%).

In addition, the dividend index had a projected P/E of 20, a discount to the S&P 1500-based index’s multiple of 26 and a price/sales multiple of just 2.3 versus 5.9. As would be expected, the dividend-focused technology index sports an above-average dividend (1.8% versus 0.8%) relative to a market-cap-weighted benchmark that included nondividend-paying tech stocks.

Fundamentals Of S&P Technology Indexes

Source: S&P Dow Jones Indices. As of January 31, 2022

Individual Holdings

Many dividend-growing tech stocks are also seen as attractively valued by CFRA. LRCX is one of the newest constituents of the Technology Dividend Aristocrats Index, having raised its dividend annually only since 2014. Yet in that short period of time, the annual dividend per share grew tenfold, from $0.54 in 2014 to $5.60 in 2021.

CFRA Equity Analyst Keven Young, who has a Buy recommendation on the semiconductor equipment stock, expects EPS in fiscal year 2023 (June) to rise to $37.00, up from a projected $34.40 in 2022, as the company benefits from elevated investments by memory customers.

Furthermore, LRCX’s free cash flow should rise 23% in 2023, to $4.9 billion, providing ample room for dividend growth. Despite its growth, Young thinks LRCX is trading at an unwarranted P/E discount to its peers.

Meanwhile, MSFT began paying dividends in fiscal year 2004 (June), with an annual dividend of $0.32 per share, but ended fiscal year 2021 paying $2.24 per share, before raising its dividend an additional 11% in the beginning of fiscal year 2022.

CFRA equity analyst John Freeman forecasts MSFT’s earnings growing 20% on a compounded annualized basis over the next three years, and believes the systems software company will steadily raise its dividend over time. Due to a healthy balance sheet, strong free cash flow generation and relative P/E analysis, CFRA has a Strong Buy recommendation on MSFT.

According to CFRA’s fundamental research, other attractively valued stocks within the dividend index and TDV include Accenture (ACN), AAPL, Broadcom (AVGO), Cisco Systems (CSCO), KLA (KLAC), Mastercard (MA), and Visa (V 231).

(Use our stock finder tool to find an ETF’s allocation to a certain stock.)

Tech stocks are often underrepresented in dividend growth ETFs. At the end of January, CFRA published a thematic research article titled “Meet Some of the New 2022 Dividend Aristocrats,” highlighting what stocks were joining the indexes behind the SPDR S&P Dividend ETF (SDY) and the ProShares S&P 500 Dividend Aristocrats ETF (NOBL).

When reviewing the ETF holdings, we noted that due to the lack of 20-plus years of dividend growth within the sector, the information technology sector was underrepresented, with approximately 3% of fund assets.

For investors using dividend growth ETFs as part of the core of their portfolio, the absence of tech stocks can lead to underperformance when the sector is in vogue. We think TDV can be paired with one of these ETFs, or others, to balance out the sector exposure while maintaining a high quality tilt.

Conclusion

The information technology sector no longer exclusively consists of companies that in general are growing faster than the broader market, but it does include many that are returning an increasing amount of cash to shareholders through dividends.

While less profitable or unprofitable technology stocks have struggled recently, we think dividend-paying companies provide more stability in an expected rising rate environment.

All of the views expressed in this research report accurately reflect the research analyst’s personal views regarding any and all of the subject securities or issuers. No part of the analyst’s compensation was, is, or will be, directly or indirectly, related to the specific recommendations or views expressed in this research report. For more information and disclosures, please refer to CFRA’s Legal Notice at https://www.cfraresearch.com/legal/.

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