Tuesday, June 17, 2014

Companies I am Considering for my Roth IRA

Ever since last year, I am on a quest to max out any tax-deferred vehicles available for me. This is in an effort to diversify my asset base, since the majority of my money is in taxable brokerage accounts. However, by maxing out tax deferred accounts, I am deferring taxes on dividends and capital gains for several decades. In the case of some accounts like 401 (k) and SEP IRA, I am also receiving a pretty nice tax break today. I have maxed out 401 (k) and SEP IRA for 2014, the next goal is to max out my Roth.

Last year, I separated my Roth IRA contribution and made approximately 30 transactions. I ended up paying less than 0.50% on the total thing, which was great. This year, I am finding less quality companies to invest in, that are also available at attractive valuations. As a result, I am going to split the results in only a few companies.

Many readers of the site know that I own a lot of companies in my dividend portfolio. Since I already own too many companies, I have decided to add the new funds in the best positions that I already own. However, I am going to refrain from allocating any of the new funds in the five holdings with the largest portfolio weights. This means that companies like Philip Morris International (PM) would not be considered, given the fact that I am overweight in it, relative to any other holdings. I will also exclude certain foreign companies from consideration for my Roth IRA, because of dividend taxes that foreign governments withhold from my distributions at source.

The companies I am interested in purchasing include:

Exxon Mobil Corporation (XOM) explores and produces for crude oil and natural gas. The company has managed to increase dividends for 32 years in a row. In the past decade, this dividend champion has managed to boost distributions by 9.60%/year, and earnings per share by 8.90%/year. Currently, the stock is selling at 13 times forward earnings and yields 2.70%. Check my analysis of Exxon Mobil.

International Business Machines Corporation (IBM) provides information technology products and services worldwide. The company has managed to increase dividends for 32 years in a row. In the past decade, this dividend achiever has managed to boost distributions by 9.60%/year, and earnings per share by 13.20%/year. Currently, the stock is selling at 10.30 times forward earnings and yields 2.40%. Check my analysis of IBM.

ConocoPhillips (COP) explores for, develops, and produces crude oil, bitumen, natural gas, liquefied natural gas, and natural gas liquids worldwide. The company has managed to increase dividends for 13 years in a row. In the past decade, this dividend achiever has managed to boost distributions by 15.70%/year, and earnings per share by 6.20%/year. Currently, the stock is selling at 12.70 times forward earnings and yields 3.40%. Check my analysis of COP.

Altria Group, Inc. (MO), through its subsidiaries, manufactures and sells cigarettes, smokeless products, and wine in the United States and internationally. The company has managed to increase dividends for 44 years in a row. In the past decade, this dividend champion has managed to boost distributions by 11.40%/year. Currently, the stock is selling at 16.50 times forward earnings and yields 4.70%. Check my analysis of Altria.

Ameriprise Financial, Inc. (AMP), through its subsidiaries, provides a range of financial products and services in the United States and internationally. The company has managed to increase dividends for 9 years in a row. In the past five years, this dividend company has managed to boost distributions by 24.90%/year, and earnings per share by 12.40%/year over the past six years. Currently, the stock is selling at times forward earnings and yields 2%. Check my analysis of Ameriprise.

General Mills, Inc. (GIS) produces and markets branded consumer foods in the United States and internationally. The company has managed to increase dividends for 11 years in a row. In the past decade, this dividend achiever has managed to boost distributions by 9.90%/year, and earnings per share by 8.60%/year. Currently, the stock is selling at 19.20 times forward earnings and yields 3%. Check my analysis of General Mills.

The Chubb Corporation (CB), through its subsidiaries, provides property and casualty insurance to businesses and individuals. The company has managed to increase dividends for 32 years in a row. In the past decade, this dividend champion has managed to boost distributions by 9.20%/year, and earnings per share by 15%/year. Currently, the stock is selling at 12.80 times forward earnings and yields 2.10%. Check my analysis of Chubb.

Aflac Incorporated (AFL), through its subsidiary, American Family Life Assurance Company of Columbus, provides supplemental health and life insurance products. The company has managed to increase dividends for 31 years in a row. In the past decade, this dividend champion has managed to boost distributions by 16.80%/year, and earnings per share by 16.10%/year. Currently, the stock is selling at 10.20 times forward earnings and yields 2.40%. Check my analysis of Aflac.

Accenture plc (ACN) provides management consulting, technology, and business process outsourcing services worldwide. The company has managed to increase dividends for 9 years in a row. In the past five years, this dividend company has managed to boost distributions by 28.40%/year, while in the past decade earnings per share have risen by 16%/year. Currently, the stock is selling at 18.50 times forward earnings and yields 2.20%. Check my analysis of Accenture.

Of course, this is all subject to changes, given the fact that valuations chance. If companies like ConocoPhillips keep going higher without any break, I might have to put the money into the next best ideas. For example, I had Family Dollar on the list when I initially wrote the article in late May, but given recent actions by activist investors, I dropped it due to increase in price. I am also hesitant on adding Target to my Roth IRA, since I already have a plan of investing there in one of my regular taxable accounts already, so that all the stock is in one place. In addition, if other companies drop suddenly, I would consider them instead.

The companies I don’t own, that could also be included for consideration include:

General Electric Company (GE) operates as an infrastructure and financial services company worldwide. The company has managed to increase dividends for years in a row. In the past decade, this former dividend champion has managed to deliver negative earnings per share and dividends per share. Currently, the stock is selling at 16.10 times forward earnings and an yield of 3.30%. Check my analysis of General Electric.

Baxter International Inc. (BAX) develops, manufactures, and markets products for people with hemophilia, immune disorders, infectious diseases, kidney diseases, trauma, and other chronic and acute medical conditions. The company has managed to increase dividends for 8 years in a row. In the past decade, this former dividend champion has managed to boost distributions by 12.40%/year, and earnings per share by 9.20%/year. Currently, the stock is selling at 14.30 times forward earnings and an yield of 2.80%. Check my analysis of Baxter.

Again, in my purchases I am looking for good entry price today, coupled with good growth opportunities. The resulting compounding effect would do the heavy lifting for my capital and dividend incomes.

I plan on making the contribution sometime in the next month or so. After that, my contributions for tax-deferred accounts such as 401 (k), SEP IRA and Roth IRA would be complete for 2014. I would only have to rebuild my cash reserves after maxing out those contributions and paying out another steep tax bill in April. Going forward, I continue to view my taxable accounts as a place to purchase out-of-favor securities on dips, while viewing my tax-deferred accounts as the place to put money to work on a more regular basis.

Full Disclosure: Long TGT, IBM, XOM, COP, MO, AMP, GIS, CB, AFL, ACN

Relevant Articles:

Dividends Provide a Tax-Efficient Form of Income
My Retirement Strategy for Tax-Free Income
How to buy dividend stocks with as little as $10
Nine Quality Dividend Stocks Purchased for the Roth IRA
Roth IRA’s for Dividend Investors

19 comments:

  1. DGI,
    I noticed that you hold (or consider) a lot of stocks in certain sectors, like oil. Do you have a maximum percentage in a given sector that you would invest?

    A SEP IRA is set-up by an employer, correct? The company that I work for lets us contribute to our 401k and/or IRA, but the combined contribution is the limit for the 401k. So, I only put money in the 401k because I couldn't see the advantage of the IRA if it takes away money from the 401k. Do you have a different plan?

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    1. Hi Keith,

      I am overweight Consumer Staples, and then Energy. Those are the types of companies available to me between 2008 - 2013 mostly. I mostly look for quality with growth at decent valuations. But having too much exposure to one sector could be devastating ( example with Financials in 2007 - 2009). Right now, adding an extra new consumer staple company is not going to add extra value versus adding an extra financial company or a tech company. Above all however, underlying company business models, valuation and expectation for growth should trump anything else.

      As for SEP IRA, if you have Self Employment income, you can defer a portion of it, if you meet certain guidelines. Your company should let you do a 401K, but the IRA or Roth IRA is dependent on your own action. The nice thing is that depending on income, etc, one can contribute to a 401K, Regular IRA ( whether Roth or Tax Deductible one) and SEP IRA. The maximum for 401K for someone under 50 is $17.5K/year. For Roth/Regular IRA - maximum is 5.5K. For SEP IRA, the maximum is much higher, but dependent on profits from self employment, and any other 401K contributions. Everyone's situation is different, hence talk to a tax advisor for your own situation.

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    2. Ah, that answered my question. I do not have any self employment income. Thankfully, I can take advantage of the catch-up rules since my wife and I are both in our late 50s. This allows us to put $13K in Roth IRAs and $23K in the 401k. This is achievable since we saved money for our daughters' college when we were younger, and we paid off the mortgage on our home a few years back. A different path to FI (longer too), but we are almost there.

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  2. Why aren't any REITs being considered for the Roth IRA? It looks like most (all?) of the companies listed here pay qualified dividends. Placing REITs in a Roth IRA instead of qualified-dividend paying stocks seems to be the more tax efficient route.

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    1. I agree with Jake to some extent. Reits would be a better choice for a Roth and qualified dividend stocks would be better bets for a taxable account since presently qualified dividends enjoy a lower tax rate, depending on one's income.

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    2. Hi Jake and Anonymous,

      The most important factor in making an investment is actually finding an attractive investment first, then making sure that it makes sense for my portfolio given weight etc. And only then would I decide what accuont to place it in. As I went through this process, I did not find any REITs to add. If I didnt have a high allocation to the likes of O, I might have considered adding to it. But I have high allocation there already.

      I am not sure why you believe REITs are better in tax-deferred accounts than qualified dividend stocks? For example, a portion of distributions from some REITs like O or NNN is not taxable already. Why stick those in tax-deferred accounts?

      Also, you need to think in terms of 30 years or more, not just what is there immediately. Companies listed above have a much higher chance of delivering a higher amount of dividends over a 30 year period than REITs. Hence, it makes sense to put those in tax-deffered accounts. Also, your comment is difficult to respond to, because you are not offering any specific REITs to discuss. Hence, any response I can give you might risk getting into academic debate, which might or might not be helpful.

      DGI

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  3. Stocks that should be in your IRA - foreign stocks that are not QDI.

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  4. You mention you are long TGT at the end, but it doesn't look like you're considering it for your Roth? I'm curious because I'm evaluating TGT for myself after reading a few of your previous posts.

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    1. Hi Clint,

      Please read the article in its entirety.

      Best Regards,

      DGI

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  5. Question: is there any place that you can track the historical dividend yields of companies over more than a 5 year period? Say, 10 years or greater? I want to know what the maximum yield has been for certain stocks like IBM that have historically low yields. The only thing I can find is ycharts, and they only go back 5 years.

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    1. Hi Anon,

      You can actually calculate that yourself, using free tools like Yahoo Finance, and company websites. You would have to adjust for things like splits, etc, but it is entirely doable and very rewarding to do the work yourself, rather than rely on a third party service to make the calculations for you. I of course do almost everything manually, so I might not be the best person to ask. I do believe in hard work, as going through menial tasks such as reading annual reports, adding data from them, and playing with it in excel is helpful for my learning.

      Best Regards,

      DGI

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    2. I would be interested in seeing such historical data as well. It is important to keep in mind that payout ratios can change over time. A significant increase in the yield over several years does not necessarily mean a company is a better buy now than it was in the past.

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    3. gurufocus goes back to 1998 or so:
      http://www.gurufocus.com/dividend/ibm

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  6. All look solid and I have several of the stocks you mention in my regular and/or Roth as well. I do happen to agree with fellow comments regarding REITs as they would do nicely in a tax advantaged account. Just be careful which REIT/s you jump into. Don't go for that unsustainable yield and look for REITs in sectors that will grow over time. Hint; I don't like commercial REITs. Thanks for sharing.

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    1. Hi Div Hut,

      Please refer to my comment on REITs above.

      Best Regards,

      DGI

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  7. Look at all the different ideas, I only buy US multinational companies that pay a dividend. Then my plan is to live off of the dividends and do not sell stock for income. So far (74 now) I have reinvested all of the dividends into new shares as I do not need the income now. I just let it grow.

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  8. DGI,

    I completely understand the decision to first select an attractive investment and then address other issues like portfolio weight and taxation.

    Yes, some of the distributions from REITs are return of capital but they're not automatically tax free. These distributions reduce your tax basis and will be taxed as a capital gain if/when you sell the shares. Assuming you've owned these shares for more than a year this return of capital will be taxed at the preferential long-term capital gains tax rate.

    You mentioned O a few times so I'll use it as an example. In 2013 38% of O's dividends were treated as return of capital. The other 62% is taxed as ordinary income. The companies you listed in this post pay qualified dividends. This means 100% of the dividends receive preferential tax treatment and, like the REITs, long-term capital gains receive preferential tax treatment as well.

    To answer your question, I think REITs are suited quite well for a Roth IRA because only 38% of their distributions receive preferential tax treatment. Qualified-dividend-paying stocks receive preferential tax treatment on 100% of their distributions.

    I'm not looking for an academic debate. I just thought REITs were relevant since this post focused on possible investments for a tax-advantaged account. There's no harm in putting qualified-dividend-paying stocks in a Roth IRA. I have some in mine (but no REITs in the taxable account). The catch is it may not save you much on taxes since these stocks are so tax efficient to begin with. And, let us not forget that the tax laws are not set in stone.

    Thanks for the reply.

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    Replies
    1. Hi Jake,

      Thank you for responding. You bring some very nice points, and I am really enjoying discussing with you. I think REITs can be added to Roth IRA just fine; my problem is I am not finding many to add to my portfolio ( given my situation right now). I actually do have a portion of ARCP and O in a Roth account, since I actually thought they were offering compelling values at the time. I also own an MLP in an IRA account.

      I did some math and found that for O's example, if 62% of dividends are ordinary income, that means that out of $100 in O dividends, someone in the 25% tax bracket will end up paying $15.50 in taxes.This comes out to ~15.50%. And the 38% of $2.19 in annual dividends comes out to ~83 cents/share. So if all things are equal (which they never are), at a price of $43/share, the cost basis will fall to $0 in about 50 years. I don't know how old you are, but if I am around in 50 years, I would be ecstatic. I therefore believe that whoever inherits O's shares in a taxable account would essentially get a step up basis ( assuming current laws hold through 2064).

      I actually find my new fascination of tax-deferred accounts to be the main positive, given that I mostly ignored tax-deferred vehicles prior to 2012 ( except for doing basic 401K for the match and a couple years worth of Roth contributions). If I had maxed out my tax-deferred accounts, I would have been better off by at least 20%.

      Anyway, thank you for stopping by.

      Have a nice evening!

      DGI

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