For a publicly-traded company to be able to pay out dividends to its shareholders, it has to have two things going for it:

1. Earnings (also known as Profits)
2. Cash Flow

If a company doesn't have these two things going for it, it's not going to be able to sustain paying out dividends on a regular basis for very long.

Combined, these two things provide a big reason why dividends are so important to investors in assessing the health of a company. That's also why a company's stock price will often take a major hit whenever a company's management announces that they are going to cut the cash dividends they had previously indicated they would pay - they're acknowledging that they don't expect to have either the earnings or the cash flow to pay them.

As a result, because cutting dividends has such a negative effect upon stock prices, which can make up a large share of the compensation of the leadership at publicly-traded companies, the managers of these companies will seek to avoid dividend cuts until their business situation makes them unavoidable.

That's what makes dividend cut announcements such a big deal. They don't happen unless things aren't going the way the leaders of the companies that are forced to announce them had expected when they set their dividend policies.

All this background is extremely relevant today, because the number of dividend cuts announced for S&P 500 companies, the 500 largest publicly-traded companies in the United States, in the month of February 2013 has hit a level that has not been seen since the U.S. economy fell into recession after December 2007:

Through 25 February 2013, five S&P 500 companies have announced dividend cuts during the month. The last time there were that many S&P 500 level companies announcing dividend cuts was in July 2009, just one month after the "official" end of the so-called "Great Recession" in June 2009.

In the chart above, we can also see that the number of dividend cuts announced by S&P 500 companies frequently spiked to more than three per month after December 2007 that coincides with the period of time defining the "Great Recession".

As such, the number of dividend cuts announced monthly for the companies that make up the S&P 500 index may work very well as an early indication of any period of time that the U.S. economy may be officially declared to be in recession by the National Bureau of Economic Research.

That focus differs from our previous looks at the number of companies announcing dividend cuts each month, which is drawn from the full list of all 6,000+ publicly traded companies in the United States. We have been using that data to simply determine whether the U.S. economy is experiencing recessionary conditions.

We'll be updating that analysis as soon as the data for February 2013 becomes available after the end of this month. As for what to expect, we'll simply observe that S&P 500 companies through this point in February 2013 have already accounted for half the number needed for us to determine that recessionary forces are at work in the U.S. economy.

Data Source

Standard and Poor. S&P 500 Dividend Rate Change. [Excel Spreadsheet]. Accessed 25 February 2013.