Wednesday, November 18, 2009

What are your dividend investing goals?

Great investors have goals and strategies are only the tools that help them accomplish their targets. My goal is to generate a rising stream of dividend income, which would allow me to leave the rat race and spend my time doing worthwhile things like education and charity and self-development.
By focusing on dividend growth, I am trying to pick the stocks, which have solid competitive advantages, whose revenues are relatively recession proof but could still grow earnings by innovation, acquisitions, and buybacks. Historical inflation rates have been around 3% for the US over the past one century. Thus, by focusing on companies, which have a long history of dividend increases of over 3%, I would create an inflation proof source of income.
In addition to that, if my stock picks raise dividends faster than the rate of inflation, I would be able to achieve very good yields on cost in the process. A company, which yields only 3% or 4%, might be scoffed at by yield chasing gurus, who wouldn’t even consider a stock unless it yields 8% or 10%. Those yield chasers might get the 10% yield now, but the cost of dividend cuts or no dividend increases makes chasing high yielding stocks a dangerous exercise with negative effects on wealth building.

At the same time a company that yields only 3% or 4% now, but grows its dividend payments at 12% annually, could generate a yield on cost of 6% to 8% in 6 years and yields on cost of 12% to 16% in 12 years. These companies exist in the market. It only takes an attentive dividend investor to uncover them. Examples of such companies are

Johnson & Johnson (JNJ) has regularly hiked dividends for 47 years in a row. The ten-year average dividend growth for the producer of Neutrogena, Tylenol and Remicade is an impressive 13.30% annually. (analysis)

Procter & Gamble (PG) has rewarded shareholders with dividend raises for 53 consecutive years. This consumer good juggernaut has managed to increase distributions at a rate of 10.70% annually over the past decade. (analysis)

Pepsi Co (PEP) has increased its dividends for 37 consecutive years. The producer of Pepsi Cola, Mountain Dew, Lays and Doritos has delivered a 12.80% average dividend growth annually over the past decade. (analysis)

McDonald’ s (MCD) has increased its dividends for 32 consecutive years. The worlds largest fast food chain has boosted dividends by an average of 27.30%/year over the past decade. (analysis)

I believe that even in 20 years people would still have a need to eat, drink, shower, shave and take pills. I would bet that even in 20 years people would still shop at McDonald’s – if not for their burgers then for the salads or whatever food sells the best.

Over time a portfolio of carefully selected dividend growth stocks could not only deliver a consistently increasing stream of dividend income which increases faster than inflation, but could also deliver outstanding total returns. Over the past fifteen, ten, five, three or one years, the dividend achievers index has outperformed the S&P 500. (source Mergent's)

The dividend achievers index consists of US stocks traded on NYSE, NASDAQ or AMEX, which have increased annual regular dividends for at least the past ten consecutive years. This index is a great shopping list for novice dividend investors. Even Peter Lynch, the famous manager of the Fidelity Magellan Fund, which outperformed the S&P 500 by a significant margin in the 1980’s, said : "The Dividend Achievers Handbook is one of my favorite bedside thrillers. Here's a simple way to succeed in Wall Street: Buy the stocks on Mergent's list and stick with them as long as they stay on the list"

As a dividend growth investor my primary objective is growth in dividend income without losing too much of my capital in the process. Capital appreciation is second of importance. I believe that if my portfolio generates enough dividend income for me, I would not have to rely on selling 4% of my portfolio at depressed prices in order to live off my investments.

Full disclosure: Long MCD, JNJ, PG and PEP

This post was featured on the Carnival of Personal Finance #234 – Weirdest Toy Crazes Edition

Relevant Articles:

-Don’t chase High Yielding Stocks Blindly
-Dividend Cuts - the worst nightmare for dividend investors
-Yield on Cost Matters
-The Dividend Edge

5 comments:

  1. Great post.

    To me this is the key:

    I believe that even in 20 years people would still have a need to eat, drink, shower, shave and take pills. I would bet that even in 20 years people would still shop at McDonald’s – if not for their burgers then for the salads or whatever food sells the best.

    I only invest in companies that I think will be making more and paying bigger dividends per share in 10 - 20 years than they are now.

    I do not understand the premium on some tech stocks that I think are unlikely to be making more more money in 10 years than they are now. There are some good tech stocks but IMO many will never pay a divided.

    ReplyDelete
  2. While I totally agree with you on your dividend growth hypothesis, I unfortunately have a shorter time frame. At age 63+, I too would like to develop a steady income stream from dividend paying stocks, but am not able to wait 10+ years for that income to develop. What would can I do in the next 2 to 3 years to position myself for a 5%+ dividend income stream at age 66 ? Should I look for higher yielding stocks with lower growth prospects ? Or, should I forget about dividend income stocks and just look at fixed income instruments ? Any suggestions that you or the audience have would be appreciated. Thanks.

    knute@charter.net

    ReplyDelete
  3. Dividends are an excellent choice for looking for a positive income stream especially with variance from inflation and market changes. I tend to lean towards large cap funds and target date funds myself, as for a cash flow for the other comment. 2-3 years is a short time frame, but i would still look for dividend yielding stocks, but I would think that looking for a balanced blended fund for growth and dividends might help meet your needs based on age and capital preservation.

    http://justgoodfinancialadvice.blogspot.com/

    ReplyDelete
  4. Hugh, I would look for the strongest of the stocks that must pay out dividends to keep favored tax status like REIT's and some Natural gas partnerships. Also companies like Kinder Morgan that pay out high dividends for historical and perception reasons but are strong companies.

    ReplyDelete
  5. If ou ask about my dividend investing goals well of course, its a doing it like Derek Foster Plan :)

    ReplyDelete

Questions or comments? You can reach out to me at my website address name at gmail dot com.

Popular Posts