After the internet bubble burst, investors turned to more solid values. An annual income is the most solid part of the return on shares. Microsoft became the world’s most valuable company without declaring a dividend, but now even Bill Gates pays out.

In their latest ABN-AMRO long-term study of investment returns, Elroy Dimson, Paul Marsh and Mike Staunton of the London Business School accept that the role of dividends is bound to be played down in day-by-day talk about shares. Over a year, changes in a share’s price dominates returns. Price is usually a lot more volatile than income. It follows that over the long run, shares with low dividend yields are riskier than ones with above-average yields.

Over a long period, average returns on shares are determined largely by dividends. ABN-AMRO’s Global Investment Returns Yearbook finds that UK shares have returned a money average of 9.6 per cent a year since 1900. Of this, 4.9 per cent comes from dividends, 4.7 per cent from capital gains.

If you are saving to build up capital over decades rather than months, reinvesting dividends will make a vast difference to the size of the pot you end up with. So anyone liable to higher rate tax might best keep long-term holdings in an Isa. Statistically, the capital gains element in returns ultimately depends on dividends, or more precisely on the rate at which dividends grow. In a comparison of 17 countries, ABN-AMRO finds a close correlation between real returns (net of inflation) and the market average dividend yield plus the rate of dividend growth.

The obvious exception, as usual, is Japan. There is also a difference in America, where the real rate of return has averaged 6.6 per cent and dividend income plus dividend growth averaged 5.4 per cent. This disparity stems from the long-standing double taxation of dividends in America, which George Bush has tried to end. The vogue against hefty regular dividends and in favour of share buybacks that generate fees to investment banks, is an unusually malign sign of US cultural influence on the rest of us.

Not surprisingly, given the key role of dividends in equity returns, it has paid over the long run to invest in stocks with above average yields. In the UK, an index of high-yield stocks has delivered a money return averaging 11.2 per cent a year compared with the 9.6 per cent market average. This also assumes that dividends are re-invested. Lower-yield stocks delivered 7.2 per cent.

Much higher returns can usually be earned by backing the shares of small, rather than large, companies. In this case, however, the higher returns reflect higher individual risk. The classic way to harvest high-average returns without bearing higher individual risk is to use an investment fund, but small-cap funds are not as good as they might be. The alternative is to do your homework on individual stocks and accept the risk.

There is no easy formula for picking shares to maximise returns over one year, the goal of many active investors. Over the long run, decades rather than days, it pays to buy value rather than fashion The value message applies equally to timing and geographical choice. To earn above-average returns, we should invest when economic growth and the share of profit in national income are low. Both tend to move in cycles. China had one of the few markets to fall in 2004, when output grew by 9 per cent.

On this thinking, the place to put your money now could well be Germany. Shares in Frankfurt have lagged the European average. The pulsating powerhouse of Europe is now a stagnant pond with a low share of profit in national income. But the new welfare reform opens the way to shake up labour markets, cut costs and boost profits. Now that is long-term thinking.

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