Thursday, October 16, 2008

When should you consider investing in dividend stocks?

Three readers asked me three separate questions on dividend investing. The first one was whether now it was a good time to stick to a dividend investment strategy. The second question was about the amount of money necessary to start dividend investing. The third one was wondering whether it wouldn’t be a bad idea to actually maintain an asset allocation that includes bonds whenever investors begin accumulating their dividend portfolio. I personally believe that investors need to take maximum advantage of their early years of savings and put as much as possible in the stock market. Only after they have 15 years or less to retirement would they start contributing to fixed income investments in order to achieve a minimum 25% allocation to bonds at retirement. I believe that answering these three questions together at the same time is the best way to understand my dividend growth strategy.

I seldom discuss personal finance matters on this blog. I do believe however that one needs to have an emergency fund covering at least nine to twelve months worth of living expenses before they become an aspiring dividend investor. This emergency fund is most likely to be invested in fixed income instruments such as Certificates of Deposits, savings accounts or even money market or bond funds. I believe that asset allocation should be viewed in the context of an individual’s total net worth, as opposed to only focusing on the brokerage/retirement accounts that one owns. Thus I believe that investors who have more than 15 years before retirement and have an emergency fund covering nine to twelve months would have an above average fixed income allocation if they also held fixed income instruments in their portfolios.

Once you have your emergency fund set up, the next step in your personal finance journey is to take full advantage of any “free money” opportunities available to you including purchasing company stock at a discount or contributing to your company retirement account at least to get the maximum company match to your contributions.

Only after that would I consider investing in dividend stocks. A good amount to start dividend investing is $10,000. If you start with less than $10,000 your expenses would eat up a large portion of your profits. Expenses could range from stock commissions, extra expenses for tax filing since your situation would become a little more complicated. Tracking your cost and dividend income for tax purposes would be a huge burden and not cost effective at all if you have a small amount of funds to invest. Another expense could be an annual expense that some brokers like Zecco or Sharebuilder charge you if you open an individual stock retirement account.

If you plan on contributing several hundred per month however, you could definitely start investing with a smaller amount of initial capital as long as you stick to your schedule. One positive for this type of strategy is that you get to dollar cost average into your favorite dividend stocks which should decrease your risk somewhat.

And to answer the last question, yes I still believe it is a great time to start or keep investing in dividend stocks. Chances are that every dollar that you put in stocks today would generate one dollar in dividend income in three to four decades if you reinvest your dividends. In addition to that I also believe that bear markets are an ideal way to start accumulating assets in many good quality dividend names at bargain prices.

This post appeared on the Carnival of Personal Finance - Financial Armageddon Edition!

Relevant Articles:

- Unlimited Free Trades at Zecco in October!
- Back test Results of one Rule of Thumb
- Diversification and portfolio allocation
- My Dividend Growth Plan - Strategy

3 comments:

  1. Just a clarification: ShareBuilder no longer charges an annual maintenance fee for retirement accounts.

    ReplyDelete
  2. Scott,

    Thanks for the heads up. The other issue with sharebuilder is that it would still charge you $4/trade..

    What I would really want to see is a stock broker that lets you open a retirement account without charging you any annual fees or stock commissions.

    ReplyDelete
  3. Invest on Share on the best returns (dividends)

    ReplyDelete

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