Wednesday, April 22, 2015

How to Make Money in Your Sleep with Forever Dividend Investing

The process of identifying a great company, and purchasing it at an attractive price is part art, part science. While I have tried to narrow it down to a few quantitative factors, my detailed analysis of each company could bring an unexpected turn of events in determining qualitative nature of things.

In reality, once you have purchased shares of a quality company at fair prices, your job is done. You should stop checking the quote page every five minutes, and turn off your computer. Collect your dividends, and pick up a hobby. And please, listen to your wife and take the Christmas lights off. It is April after all.

This is contrary to what everyone else is telling you to do. You have been told that buy and hold means buy and monitor. And this could be true to a certain extent. However, over the course of a year, there could typically be only a few material events that could impact your analysis of a dividend paying company. One of them would be what is in the annual report, another could be the rate of change in dividends, while a third could be related to corporate events such as mergers, spin-offs, etc.

And then, even if you do monitor those items, and found out something that might make you rethink your opinion on the company, should that be a sell signal? Many times investors see a red flag, and immediately jump for the exits. In reality, the real world is bumpy, and companies, economies and people hit roadblocks all the time. A company that never hit a roadblock is probably really good at cooking the books.

What I am trying to say here is that while monitoring your company is important, in reality, it doesn’t really produce much in actionable information for you. For example, just because cash flows from operations have declined for two years in a row, dividend coverage has been inadequate and dividend growth has stalled, this might not be a reason to sell. A company that experiences those things might also face a falling stock price as well. In reality however, a turnaround could be just right around the corner, which could put it back on the track to dividend growth.

As a dividend investor, your goal is not to obsess over quarterly information or others opinions, as even annual information might end up as “noise” in the grand scheme of things for long-term investors. Your goal is to do a lot of prep work in understanding the companies you are buying, buy them at a decent price, and then be diversified in at least 30 -40 companies representative of as many sectors as possible. Most investors are usually pretty bad at forecasting turns of events. What might look as a flop today, could turn out to be a non-event in the grand scheme of things. Therefore, do not try to compound your mistakes by reading too much into the noise that is all around you.

As an investor, you are your own worst enemy. You are subject to emotions such as fear and greed, which can consume you entirely. Unlike your regular job however, in investing, the amount of time you spend on your portfolio could be inversely proportional to the amount of success you have. This is because the more information you get, the higher the illusion that your decision is better. In reality, because nothing is known about the future of companies with any certainty, more information could usually mean that you simply looked at the facts that you wanted to pick, while ignoring the ones that you didn’t like.

I see investors make rash decisions, because they have too much time on their hands. If a company they hold freezes its dividend, they are thinking about selling right that second. They are not giving the company time to work itself out of a temporary blip. Your goal is to avoid rash decisions, which could be costly down the road. Remember back in 2013 when all dividend bloggers were selling Intel (INTC) because it failed to increase dividends after 5 quarters? In reality, they should have held on, and done absolutely nothing, because the company was doing all the work in quietly compounding their money. Things looked terrible in the short-term, and the level of noise that Intel was going the way of the dodo probably made it safer for those investors to sell rather than hold. Then a few quarters later, Intel raised dividends and is selling at much higher prices today. Activity is bad when it comes to investing.

Which leads me to the most important things about investing in dividend growth stocks: “The money in the stock market is made by sitting, not by thinking”. In other words, time in the market is more important than timing the market.

A good company will grow and compound on its own, even if you do not read its annual report for the next 30 years. The smart investor would hold on to that compounding machine to their grave. Most ordinary investors would not do that however, because they are fearful that their paper gains would evaporate. They are also constantly trying to forecast the turn of events, rather than going along for the ride. When I posted an article on why I would not sell even after a 1000% increase in prices, most responses I received were that it would be silly to not sell after a ten-bagger. In reality, of the 50 or so companies that you would buy in your dividend portfolio, there would be a few exceptional ones that would perform phenomenally. These will be the candidates that would bring a large portion of the gains in dividends and portfolio values for your portfolio. The rest would do just fine probably, while as much as 20% could outright end up failing within a decade or so.

On the contrary, a company that really hits it bad, is going to fail no matter how much you monitor it. You would be unable to determine when to exit the losing company at the time, as some events could mean the end for some companies but not the others. For other companies these same events could mean that the bottom is in and the business is about to turn a corner. For example, I have found that when a company cuts or eliminates dividends, this is a sign that management is really bearish on the business. This is the situation when I sell my shares. If I am wrong and they start growing it again, I will review the situation and get back in. During the financial crisis, several companies that cut dividends such as Washington Mutual, eventually went bankrupt, thus wiping out their sharehoders. Others such as Bank of America (BAC) or Citigroup (C) lost over 90% of their stock value and annual dividend income and haven’t recovered yet. On the other hand however, the perfect time to buy Wells Fargo (WFC) and US Bank (USB) was when the companies cut dividends. At the time of the trouble, you can’t reasonably expect to know if this is a short-term bump or the beginning of the end. Therefore, your monitoring is likely not a value add activity.

I wrote this article, because I have been thinking about the management of my portfolio, should I be unable to manage it any more. After all, there are 62,000 Fedex (FDX) vehicles in the world, so the chance of being hit by one is out there. I know that whoever gets my money ( family, charity etc) is not going to be as knowledgeable about investments as I think I am. Therefore, my goal is to build a portfolio that could last for several decades after I am gone. This means that this is a passive portfolio, consisting of companies which have enduring competitive advantages, that does not need to be monitored or tweaked constantly. The only goal of this portfolio is to distribute the dividends to the beneficiaries, and nothing else.

Looking at my portfolio, I am fairly confident that it can serve its purpose well. I am fairly certain that at least some of the companies I own will be around 30 - 40 years from now, and would be profitable never the less. Therefore, whoever benefits from the dividends from my portfolio, would not even need to know the difference between preferred stock and livestock. My dividend cash machine would work for decades, distributing that income to those beneficiaries, without much need for constant supervision. And no, I do not own any Twitter (TWTR) or Facebook (FB).

I can afford to do nothing, because my portfolio consists of a vast number of reliable blue chip companies from a variety of sectors. These are stodgy, mature companies whose profits are derived from hundreds of products sold across the globe. True, some of them might fail in 5-10-20 years, but the rest would produce reliable long-term growth, that would more than compensate for the failures. The facts supporting doing absolutely nothing are the performance statistics of individual investors, which show that those who trade the most have the lowest returns. This proves that doing nothing could be beneficial to your portfolio results, contrary to ordinary thinking. An investment portfolio is like a bar of soap: The more you touch/handle it, the smaller it gets.

The second fact supporting this strategy is a study by Jeremy Siegel on the performance of the original 500 firms in the S&P 500 from 1957. If you had simply bought all of those 500 corporations in 1957, and then did absolutely nothing other than reinvesting dividends and receiving shares in spin-offs, you would have actually outperformed S&P 500 for 50 years.

The third fact supporting doing nothing is the performance of the Corporate Leaders Trust, which was set up in 1930s, in order to invest in 30 leading blue chip corporations of the time. Approximately 75 years later, it has done pretty well by utilizing a totally passive approach. This so called ghost portfolio held on to the same companies for decades, and selling when dividends were eliminated. A $10,000 investment in 1942 would have turned out to $16.60 million by the end of 2013. This investment would also be delivering annual dividends of a quarter of million dollars. Dividend reinvestment works wonders when placed into practice on a diversified portfolio of blue chip dividend stocks.

To summarize, being a gentleman of leisure is my true calling. Because most of the companies I own are global brands that have recurring revenue streams from hundreds of products sold globally, one can afford to not monitor those if a situation like that arises. That being said, as long as I am in charge, I would likely continue my weekly process of scanning for dividend increases, checking annual reports, looking for undervalued companies to buy, and researching new or existing portfolio components. My goal is to be familiar and keep up with all dividend champions and dividend achievers. That way, I would be prepared to act quickly if the right opportunity arises. For those companies I already own, the goal is to be as passive as possible. Now I have to go out and find a hobby to occupy that extra free time of mine...

Full Disclosure: Long WFC

Relevant Articles:

The Perfect Dividend Portfolio
Turbocharge Income Growth with Dividend Reinvestment
What dividend stocks would I buy if I were just starting out
How to be a successful dividend investor
Comparing your results to S&P 500 could be dangerous for dividend investors


  1. I thought people were short sighted in 2013 regarding INTC. The shares that I bought then are worth 50% more today. Of course, I thought the same thing about MAT and those shares are down 20%. Maybe these examples help make your point, DGI, maybe not. Both are brand names that experience cyclical earnings swings in a general upward trend, but both could be damaged by new technologies or disruptors in their fields, or just a change in consumer preferences. How can I predict what toys kids will play with in 2025? Or what company will design and develop them? People keep saying that INTC is dead because of the demise of the PC, but isn't the use of chips expanding into ever increasing numbers of devices? I don't think my Mother's toaster had a computer chip in it, but mine does. (That isn't necessarily a good thing; Mum's toaster worked just fine.)

    1. 'How can I predict what toys kids will play with in 2025? "

      This is a question that should be asked before purchasing a company, not after. If you do not understand a business well, there is no shame to avoid it. I have never invested in MAT or HAS exactly because of the cyclical nature and the short lifecycles of toys. I never invested in INTC, since I do not understand it well. I would also not invest in T, since I think I do understand it too well.

      "People keep saying that INTC is dead because of the demise of the PC, but isn't the use of chips expanding into ever increasing numbers of devices? "

      This is why one should not listen to what people say, since this is mostly noise. You should not focus on noise, but on your own analysis. The idea of circle of competence is very important. But also important are quality, valuation and growth prospects ( taken together)

  2. I debated selling Intel in 2013, but I'm glad I stuck with it.

    On the other hand, I did have to sell two positions at a loss in the last year--SDRL and CRR--after they cancelled their dividends entirely, brought on by the plummet in oil prices. My positions in both were small, but it still hurt.

    1. Sorry to hear about your losses. I learned a valuable lesson when high yielder ACAS suspended dividends in 2008 - do not chase high yielders you do not understand well, avoid companies with high payouts ( from earnings, FFO, DCF) and focus less on pass through entities. Cyclical companies are also a big wildcard when things get tough. Security of dividend income throughout the economic lifecycle is paramount.

  3. In the past you mentioned you only put so much into a brokerage account before you open a different one. What is the reasoning behind this and what do you set for the limit per account.

    1. Check this article out:

      In the article you read, there was a link to the article I showed here. If I were in your shoes, I would poke around and follow different links and see where it leads you.

      Good luck!

  4. This is so true. There have been a few good companies that I've sold and then watched them keep trucking along. You are better to make sure it is a good company, decent price and leave it the heck alone.

    Also you are right about the noise. IGNORE IT!!

    1. Selling is one of the biggest mistakes I have ever made. However, if a dividend is cut, I ruthlessly cut the loss and get on with my life.
      And unfortunately, when you are exposed to noise everywhere these days, it is very difficult to ignore it.

  5. In my opinion, your investment blog is excellent! You indicate it would be great to let your investments and their dividends continue long after you become incapacitated or die and that your heirs or charities could benefit as well. What are your thoughts on how this could be accomplished. I know it would be nice if a family member or friend was equally committed to this type of investing but can one get a trust company or bank to do the same? Please respond. Thank you.

    1. Well, I would think that speaking with a good legal professional can be helpful. The best strategy could vary - e.g. depending on amount of assets on hand. It is possible that someone could poke holes around even an ironclad legal document - this happened with the charitable gift of one of Buffett's earliest investors. If memory serves me well, the recipient found a way to obtain and spend all the money that was in a trust, and it spent it foolishly too. So the poor donor's last wishes were not honored

    2. You might like this article as well:

    3. Thank you for your response! I appreciate all of your articles and your reference to 23 June 2014 is very helpful. You have indicated that you prefer to create trusts to carry out your wishes and I agree. I realize all family dynamics vary and the amounts involved will be important, but a trustee must be selected. Other than hoping to train a younger family member along these lines, I would need to talk to several trust departments. I have not yet done so, but perhaps the best solution for the long haul would be to set up a trust agreement adhering to dividend growth investment and strict distribution guidelines, that trust companies, for a fee, may be amenable to undertake and manage. Any thoughts?

  6. DGI,
    I forgot the most important part of my comments. Your method of doing all of the work up front before buying, and then simply holding (except for rare, predefined occasions) is brilliant. Too many traders out there just looking for a quick buck instead of investors who understand what it means to buy part of an ongoing enterprise. Brilliant!

    1. You are correct that the upfront work, focus on quality, relatively attractive entry price, along with diversification, and patience, can deliver good returns. But that brilliance is from mr Jeremy Siegel. I strongly encourage everyone to read his work. If I were brilliant, I would have retired 10 years ago..

      I think the relentless rise over the past 6 years has made many investors less cautious. In addition, blogs, twitter, and other social media have decreased the attention span of people so they feel compelled to do something - and they end up fondling their bars of soap. I am really considering to just throw out my Twitter account

    2. Interesting comment on Twitter. I almost deleted mine this morning! The only thing that kept me from doing so is that I find Elon Musk's tweets interesting. I just wish that I could find value in any of his enterprises. The companies are great, but the stocks are way over priced IMO.

  7. Really interesting post. Thanks for this. I especially like the point that: "Unlike your regular job however, in investing, the amount of time you spend on your portfolio could be inversely proportional to the amount of success you have." I think you're spot on. After you have done the basic analysis and decided it was a solid stock then a "little and rarely" approach to checking it is necessary.

    Oddly enough, I have been thinking about how to make my portfolio easy to manage if I fell ill or died. It will, hopefully, be a long way off. But my thoughts were to make my investments more "mutualised" or "pooled" as I got older. You can read it here, if you're interested: I'd love to know your thoughts. I am sure that my actual actions will be nothing like this proposed plan. Too many things would change it!

    Thanks again for the great post.

  8. Dividend Growth Investor, I saw your post over at Dividend Mantra regarding Interactive Brokers. I have never used Interactive Brokers, but I think you may want to discuss the Interactive Brokers platform on your blog if you get a chance as I bet it would be a popular post.

  9. DGI,

    I think divs are definitely the way to go. For me, as a young investor, I am trying to find stocks that also have the potential to grow. I am very bullish on COP, CVX, XOM which I think will grow in the future and already pay great divs. The plan is to continue to buy more div stocks and build up my passive income as much as I can. I am also interested in real estate, but that is down the line.

    Great post, can't wait to read more!



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