It has been a great year for dividends — payments have soared. The growth statistics, however, are loaded and skewed by the new entry into the market — income trusts.

Dividends paid by corporate Canada are climbing at the fastest pace since the Toronto Stock Exchange expanded its record-keeping in 1956. The current one-year gain of 72% is by far the highest on record, coming during a period in which earnings gained 37%.

As adjusted to the S&P/TSX composite index, dividends paid by public companies and income trusts have climbed to a record $300. The figure a year ago was $173, when income trusts had no part in it. Five years ago, dividends totalled $122.

Adding income trusts to the index has raised the dividend payout by $96, or 47%, so far this year alone. With income trusts excluded, the TSX dividend is $204 thus far. That is an 18% gain — a big step, but not as large as one-year increases in 1974, 1979 and 1989.

But despite the addition of income trusts to the index, there has been another big change. The energy sector has become the second-largest source of Canadian dividends, by a wide margin. This comes with a downside, however. Energy dividend payments, like energy stock prices, have been volatile in the past. And there is no reason to expect they will behave any differently in the future.

As well, a sobering fact accompanies the record dividend payout in Canada: such gains happen at the end of business expansions.

Increased dividends have helped raise the market’s overall dividend yield — although, by historical standards, it is puny — which is indicative of an overbought market. The yield on the index is 2.5%. Excluding income trusts, the yield is only 1.7%. At the lowest point, in August 2000, the yield was slightly less than 1%.

Expressed by the price/dividend ratio, it requires $41 of investment to get $1 of dividend income from the index ($57, when income trusts are excluded). This is better than in 2000, when the investment price of obtaining $1 of dividend income was $102.

This is a big improvement, to be sure, but still well below levels in the past that indicated stocks were cheaply priced. When the great bull market stirred at 1974 yearend, stocks yielded 4.8% ($1 of dividends cost $18).

Dividend payments rise in waves, reflecting cyclical growth in the economy. Typically, dividend payments surge when a period of business growth is ending.

For instance, earnings on the index peaked in August 1980, while dividends on the index reached a new high in September 1981. In another example, earnings peaked in February 1991, but dividend payments continued to rise until August of that year.

With profits still rising this year, the peak in dividend payment growth for this period of business expansion is still ahead.

Financial stocks are the major dividend payers in Canada. The TSX financial sector subindex currently provides 38% of indicated annual dividend payments by companies in the composite index. A year ago, financials accounted for 54% of dividends.

Last year, the energy sector provided 13% of dividend income, but now the proportion has jumped to 35%. Excluding income trusts makes little difference; the proportion would be 33% in that case. The composite index’s energy sector includes 30 income trusts, almost half the securities in the sector. But these companies tend to be the smallest in the group.

The risk here is the sector’s volatility. Its dividends, like energy stock prices, rise fast and drop hard. Between 1983 and 1989, for example, energy sector dividends increased 49% but dropped 49% in the succeeding five years. In other periods in the past 50 years when energy dividends dropped, the drops ranged between 9% and 20%.

In contrast, financial sector dividends are stable. There has been scarcely a ripple in the rise of that sector’s dividends in the past 50 years. There have been only two drops of significance — a 4% drop in 1982-83 and a 10% drop in 1991-93.

This brings up an important question: is the increase in the scale of the two drops the beginning of a trend? Meaning, if finance sector dividend payments become more volatile, will the next drop likely be larger in proportion rather than smaller?

@page_break@Way behind financials and energy as dividend payers is the third-ranked sector, materials (7% of the total; 12% if excluding income trusts).

Given that there is a business slowdown coming soon, we can expect the TSX’s dividend numbers to drop. In the past, the largest drop was 25% — from the January 1990 high in the dividend cycle to 1994. In that period, TSX profits dropped 93%.

The 1981 dividend peak was followed by a 14% drop in payments. In that business cycle, earnings dropped 67%.

TSX dividends dropped 15% from 1957 to 1959, 8% from 1970 to 1972, and 14% from 1981 to 1983. There was a 4% drop in 1998-99. But since then, dividend payment growth has been almost uninterrupted. IE