Thursday, April 18, 2019

How to improve your investing over time

As dividend investors, we focus on identifying and selecting the companies to include in our divided portfolios. The ultimate goal is achieving our stated dividend income objectives. As a result, a lot of effort is put into the company research department. I believe that this is all great. In my investing, I have found that this is very helpful. I have found however that I want to improve over time as well.

The thing that helps in this department is objectively evaluating my investments, studying mistakes and successes. This is a somewhat labor intensive process, which is a reason why few investors evaluate their investments.

This review should identify potential improvement points related to companies you are investing in, and potentially common success factors prior to investing in a stocks. It could also help identify common denominator problems that could be avoided in the future. This process could also show improvement opportunities for your process.

When I reviewed my investments, I noticed a few interesting patterns. As my review is an ongoing process, I have corrected some of those items. For others, despite my best efforts, I am still making those mistakes.

One of the biggest lessons I learned is that I do not know which of all the companies I have invested in will do the best. I have found that, the whole concept of identifying just 20 companies and sticking to that list is not a good idea for me. I have found out that the best performers I had were after my twentieth idea. The lesson learned is to strive to maintain equal weighting in my portfolio holdings, and to keep an open mind about new investments that fit the qualitative factors. This means that the best way to succeed is to plug away every month, screening the list of dividend champions and contenders, analyzing companies one at a time while trying to be as objective as possible, and then acquiring all of those companies that seem attractively priced, regardless of my opinion as to which one is better than the other.

The second lesson I learned is to avoid selling companies, as much as possible. I have previously made the mistake of selling a stock whose yield fell below a certain arbitrary number and the P/E was either close to 20 or slightly above 20. I would then reinvest the proceeds into a company that looked cheaper and was yielding more. It is possible that I was chasing yield in the process as well. Very often the outcome was that the original company kept doing well, and kept delivering higher profits, dividends to justify the temporary high prices, while the new company didn’t do as well. Therefore, it made little sense to sell a perfectly good company that merely looked pricey, and pay all the taxes, commissions and hassle factor, in order to get into a mediocre investment. The lesson learned is to avoid selling as much as possible. The biggest sin in investing is the desire to act on tips, rumors, things you read, your beliefs that a stock is too high etc. If you are a long-term investor, the important lesson is to stick patiently to your investments, and just collect those dividends. Very few can outsmart the market and correctly sell a stock at the highest price, only to reinvest the proceeds at another stock at the lowest price, and still come out ahead despite taxes and commissions. Instead, I mostly sell stocks now only after a dividend cut – this is a move where the goal is capital preservation.

The third lesson I have learned from observing my losers is that they had a few common denominators. My dividend cutters are concentrated in pass-through entities such as REITS, BDCs and MLPs. The problem with pass through entities is that they send the majority of free cash flow to shareholders in the form of distributions. This leaves them with a low margin of safety in distribution coverage when things temporarily get tougher.

The fourth lesson I have learned is to develop my personal methodology to follow in identifying companies for further research. In my case I go through my normal screening process regularly. There are reasons why I have a screen to begin with – to only focus on companies that have stood the test of time, and have weathered a few recessions without much damage to their financials. A record exceeding ten consecutive years of dividend increases is an important first threshold that only 300 or so companies in the US have. That being said, it may be helpful to listen to others for feedback, in order to identify blind spots. However, that doesn't mean to follow anyone blindly, but to determine if you are learning anything new from them.

If I purchased blindly any investment that someone has told me about, I am at an immediate disadvantage. That's because chances are that I have not done much research on it. If an authority figure has approved this investment, then chances are that I may ignore red flags and initiate a position in the stock, while hoping for the best, rather than crossing my T’s and I’s.  I would not know when things are going poorly, and what to do if things do not work out as expected. However, if I learn of a company from someone else, and it fits my criteria for valuation, quality and fundamentals after I run it through my process, I will consider investing in the stock.

If you do not develop your own methodology, you are at a disadvantage because you do not learn about investing. If you develop your methodology, but do not follow it, you are also at a disadvantage.  However, it does pay to follow different strategies and investors, in order to learn from them and identify tools that you can implement in your investment arsenal.

I have personally learned a lot about investing by reading academics, index investors, active day-traders, and other dividend investors to name a few. By synthesizing information from a variety of sources, I can develop and improve my investing over time. I believe that you can learn from everyone you meet, even if you learn what not to do. I have learned by studying the success of others, but I have also learned by studying failures as well.

Thank you for reading. I hope this article serves as an inspiration to look into ways to improve your investing over time.

Relevant Articles:

How to avoid dividend cuts
Time in the market is more important than timing the market
My own unique approach to investing for retirement
How to read my stock analysis reports

Monday, April 15, 2019

Four Dividend Stocks Rewarding Investors With Raises

As part of my monitoring process, I review the list of dividend increases every week. I usually focus my attention on the companies that have managed to grow dividends for at least a decade. This filter reduces the number of companies to review weekly.

The next step involves reviewing trends in fundamentals, in order to determine the likelihood of future dividend increases. Growth in earnings per share can provide the fuel behind future dividend increases and increases in intrinsic values.

However, it is also important to select companies when the valuation makes sense. A company that doesn’t grow can be a good investment, provided that the price is sufficiently low. A company that grows by leaps and bounds may turn out to be a poor investment, if the entry price is prohibitively high. To make things even more interesting, the valuation and availability of investments is also relative. It is dependent on the opportunities we have at the moment, and how they stack against each other.

The monitoring process I described is the way I use to keep tabs of many companies I own or am considering owning. The quick review is also the cornerstone of the way I review dividend companies for investment.

Over the past couple of weeks, there were four companies that raised dividends and also checked my boxes for further research. The companies include:

The Procter & Gamble Company (PG) provides branded consumer packaged goods to consumers in North America, Europe, the Asia Pacific, Greater China, Latin America, India, the Middle East, and Africa. The company operates in five segments: Beauty; Grooming; health Care; fabric & Home Care; and Baby, Feminine & Family Care.

P&G raised its quarterly dividend by 4% to 74.59 cents/share. This marked the 63rd consecutive year of annual dividend increases for this dividend king. Over the past decade, it has managed to grow the distributions at an average rate of 6.20%/year.

Earnings per share have trended somewhat lower however, falling from $4.35/share in 2008 to $3.67/share in 2018 (although the latter can be adjusted to exclude certain one-time items to arrive to core EPS of $4.22/share.). Procter & Gamble is expected to generate $4.44/year in 2019.
The stock is overvalued at 24.60 times forward earnings and offers a forward yield of 2.80%. Given the lack of earnings growth over the past decade and the high valuation, I am not interesting in adding to this otherwise stable and reliable consumer giant. This has been the case for a while now, as my last analysis of PG alluded to.

Enterprise Products Partners L.P. (EPD) provides midstream energy services to producers and consumers of natural gas, natural gas liquids (NGLs), crude oil, petrochemicals, and refined products. The company operates through four segments: NGL Pipelines & Services, Crude Oil Pipelines & Services, Natural Gas Pipelines & Services, and Petrochemical & Refined Products Services.

The partnership raised its quarterly distributions to 43.75 cents/unit. The distribution is 2.30% higher than the distribution paid during the same time last year. The rate of distributions growth is slowing down, as the growth over the past decade was 5.30%/year on average. Enterprise Products Partners tens to raise distributions every quarter. The partnership has a 23 year track record of annual hikes in distributions to unitholders. The MLP yields 5.90%.

International Speedway Corporation (ISCA) promotes motorsports themed entertainment activities in the United States. The company raised its annual dividend by 4.30% to 49 cents/share. This marked the 14th year of annual dividend increases for this dividend achiever. During the past decade, it has managed to grow dividends at an annual rate of 14.60%.

Between 2008 and 2018, the company’s earnings went from $2.71 to $1.85/share. The latter was adjusted for one-time items. International Speedway Corporation is expected to earn $2/share in 2019.

The stock sells at 21.50 times forward earnings and yields 1.10%. Given the lack of earnings growth, and the high valuation, I am going to take a pass on the stock.

Bank OZK (OZK) provides retail and commercial banking services to businesses, individuals, and non-profit and governmental entities. The bank raised its quarterly dividend by 4.50% to 22 cents/share. This marked the 24th consecutive annual dividend increase for this dividend achiever. The ten year dividend growth is at 20.30%/annum on average.

Between 2008 and 2018, this bank managed to grow earnings from $0.51/share to $3.24/share. Bank OZK is expected to earn $3.48/share in 2019. I see a lot of dividend investors reviewing Bank OZK over the past few months. The stock is cheap at 8.90 times forward earnings and yields 2.85%. I would have to add the stock to my list for further research.

Thank you for reading!

Relevant Articles:

Procter & Gamble Raises Dividends for 61st Consecutive Year in a Row
Why Warren Buffett likes Investing in Bank Stocks
What to do about slowing earnings growth?
How to value dividend stocks

Thursday, April 11, 2019

This is why we diversify

I have spent the last month discussing CVS Health (CVS) and Walgreen’s (WBA) with a lot of readers on my site. I have spent even more time discussing these companies than thinking about any of the ther companies I have a stake in.

The number of questions intensified after Walgreen’s issued a terrible profit miss, and guided no earnings growth in 2019. This brought the stock down a lot to the lowest levels in 6 years. I personally believe that the stock was already priced very bearishly. It is likely that the company faces a lot of headwinds with increased competition, rising scrutiny and a pressure on revenues and margins. Check my analysis of Walgreen's for more information about the company.

CVS Health has these issues as well, along with the high levels of debt after acquiring insurer Aetna and freezing its dividend payment.

As I discussed before, I am more likely to add to Walgreen’s than CVS Health, mostly due to the fact that the former is still growing the dividend. The latter is a more diversified entity, but has more debt, faces integration risks and froze the dividend.

Needless to say, I own stakes in both companies. I have added to both in the past year. However, I have been adding to other companies as well. I would hate to throw money into a bottomless pit, but I also hate to miss out on a bargain. I do have some controls in place, in case I am wrong in my assessments however. I require a decent valuation before buying a stock, because that means I get more dividend income from my initial investment right away. If a stock I buy at a 3% initial yield fails in a decade, I at least get to recover at least 30% of my initial stake. I still lose money, but my loss is smaller.

I also tend to build my position over time, which allows me to average down my cost basis if there is a decline in the share price. Since I build my positions slowly, I also see gradual changes in underlying fundamentals over time. As a result, I may stop adding to a position if I believe that fundamentals are deteriorating.

Last but not least, I also tend to limit the amount of capital I allocate to every investment idea. I do not want to depend on a single entity for the success or failure of my portfolio. I know I will make mistakes along the way, which is why I am trying to lessen their impact on my overall well being when they happen. This is why I diversify my portfolio as much as I can. I do not want one bad apple reducing my dividend income significantly. For example, one dividend cut is more painful if my portfolio consists of 20 individual names and I have a 5% allocation to the company that committed the ultimate sin of dividend investing. The dividend cut will be less painful if I have a portfolio consisting of 100 names, and the dividend cutter represents 1% or 2% of the total portfolio.

While we have an idea of an investment, and can control the screening process, and the portfolio weights, I do not know in advance which of my ideas will do the best and which one will fail miserably. This is why I try to buy over time, I diversify, and try to allocate money as equally as possible. I also try to reinvest dividends selectively into more companies to further diversify my portfolio. As a result, I believe that my portfolio can withstand potential dividend cuts without much reduction in dividend income.

The risk management controls in place include:

1) Dividend safety analysis and valuation analysis before purchase
2) Diversification by number of companies, different sectors and through time (dollar cost averaging)
3) Using dividend income to invest in other companies, in order to further diversify my portfolio
4) Selling dividend cutters, and reinvesting proceeds elsewhere
5) Placing limits on position sizes

I believe that the winners will take care of themselves. This is why my job as a portfolio analyst is to manage the risks. I can do the best job in the areas within my control, in order to place the odds of success in my favor. That way, my portfolio's will not be dependent on the success or failure of a couple of companies, but on the overall investment process of implementing my strategy.

Thank you for reading!

Relevant Articles:

Concentrated versus Diversified Dividend Investing
Dividend Investing Is Not As Risky As It Is Portrayed Out To Be
How to define risk in dividend paying stocks?
Dividend Portfolios – concentrate or diversify?
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Monday, April 8, 2019

Start investing with the end goal in mind

Planning your retirement is one of the most challenging exercises in the world. There are plenty of ways, methods and advisors, who try to influence your choice with formulas and narratives. Some of these methods may work, while others will fail most of the time. Everyone’s situation is different of course, which further complicates things. The investment path and environment will vary from individual to individual as well. For example, your experiences will be different if you started retirement in 2012, versus starting retirement in 2007 or 1929.

Some lucky investors have the benefit of pensions in addition to social security. This alone can be enough to quit your job, albeit in your late 50s or early 60s.

Others plan to rely on a combination of investments, and withdraw a portion for so many years. There are hundreds of articles, papers and opinions on the best way to live off investments. I have read a portion of them, but have decided to largely focus elsewhere.

For my retirement, I plan to live off the dividends generated from my equity portfolio.

Dividend payments are more stable than share prices and the potential for capital gains, which makes them an ideal source of income for retirement. Historically, US dividend growth has exceeded the rate of inflation. This means that dividend income not only maintains purchasing power, but increases it over time.

I go a step further by focusing on companies that can grow those dividends, have adequate dividend payout ratios and are available at attractive valuations. By assembling a portfolio of carefully selected dividend growth stocks, I can easily see how much income my retirement portfolio generates right from day one. When I compare my dividend income to my expenses, I know exactly where I am on my journey towards financial independence or retirement. This is the so called the divided crossover point.

Dividends also take into consideration current valuation available to investors today. A lot of retirees rely on historically backtested studies that show how they will not outlive their money by withdrawing 4% of their portfolios annually. Unfortunately, some of these studies are using data from historical periods that may not be directly comparable with todays situation. If the data was for periods where bond yields were above 4% and dividend yields were above 4%, it may make sense that withdrawing 4% from a portfolio was sustainable ( even when prices largely went nowhere, such as the period between 1965 and 1982). The question is whether it makes sense to withdraw 4% from a portfolio today, during a time when bond yields are closer to 2% and equity dividend yields are closer to 2% as well.

These studies attempt to make up the difference by hoping for quick annual gains in principle. Unfortunately, it is difficult to predict what share or bond prices will do in the short run when you need to sell. While the yields themselves will vary, the dividend payments will not. Relative to share prices, dividend payments look like an ocean of stability. They make retirement planning to be a breeze.

I have decided to focus on dividend income, since it is easier to predict. For example, I am reasonably certain that Johnson & Johnson will pay at least $3.60/share in annual dividend income over the next 12 months. Chances are high that this dividend king will continue growing the dividend at least once during the same time as well. However, I have no idea whether the stock price will go above $150/share or below $100/share. If you plan to sell shares to pay for retirement expenses, it makes a difference whether you sell at a high price or at a low price. Unfortunately, no one can predict share prices. On the other hand, predicting dividend incomes is much easier. This is why I focus on dividend income for my retirement planning, and ignore share price fluctuations. I think like a business owner.

Again, I focus on analyzing each individual business, in order to determine if it can safely pay and grow dividends per share over time. I also focus on underlying valuations, in order to lock in a set rate of dividend yield today. I also go a step further, by trying to build out a diversified portfolio consisting of as many companies as possible that meet my basic criteria. Besides diversification by sector, I also try to diversity over time, in order to build my positions in these companies more gradually.

The focus on dividend income makes the transition from earning a paycheck to retirement much easier. When you work, you receive a paycheck once or twice per month. When you create a dividend portfolio, you generate dividend income that replaces those paychecks. In effect, with dividemd investing you are creating your own paycheck to live off in retirement.

Compared to my paycheck however, dividend income is more reliable because it is generated from at  least 30 – 60 global businesses, and not a single client ( employer). My job is to diversify, build over time, buy at the right valuation and ensure that the underlying profit machine is humming along nicely. When you start with the end in mind, and you keep at it, you can track your progress until you reach your own dividend crossover point.

To put things in perspective, I believe that it is relatively easy to create a diversified portfolio today with a starting yield of roughly 3%. This portfolio will have adequate sector allocations, and could be built out over a period of several months to an year, in order to take advantage of dollar cost averaging and the variety of different opportunities available at different periods. If you place $1,000 in such a portfolio, it can easily generate $30 in annual dividend income today. If history is any guide, this dividend income will increase over time at or above the rate of inflation.

An investor who needs $30,000 in retirement income can get there by potentially investing $1,000,000. Few investors have this type of cash ready to be deployed however. The mindset of viewing income and expenses through the lens of dividend income investing however, can change you. The investor can see that if they only require $24,000 in annual retirement income, they need a nest egg with $800,000 today. However, if they need $36,000 to live off in retirement, they will need a nest egg worth $1,200,000.

For each extra dollar of extra expenses in retirement, our investor will have to save $33 extra dollars. These 33 extra dollars, invested at a 3% starting yield will generate one dollar in dividend income for ever. If you increase expenses by $10,000/year, prepare to come up with an extra $333,000. This can take quite a few years of hard work to accumulate.

Alternatively, if our investor manages to cut expenses, they can rest assured that for reducing each dollar in annual expenses, they need to save and invest $33 less. If you decrease expenses by $10,000/year, you can retire with a nest egg that is $333,000 less than originally expected. If you are the average person, the fact that you need to save a lower amount for retirement means that you can also retire earlier.

As I mentioned above, few investors have $1,000,000 to invest right from the start. However, if you choose to invest regularly over a set period of time, you can get there within a reasonable period of time. The inputs will vary from individual to individual of course, because different investors can invest different amounts every month. The conditions will vary as well.  For example, when I invested in 2008 - 2010, it was much easier to find quality companies yielding 4% than it is today.  However, if you keep investing regularly, keep reinvesting dividends, and manage to put money to work in a diversified portfolio of quality blue chip dividend payers, you may reach that goal in a reasonable amount of time.

For example, lets look at how long it would take you to reach $30,000 in annual dividend income if you invest $3,000 per month in dividend growth stocks. Let's assume an average yield of 3% and an average dividend growth of 6%/year. We will assume automatic reinvesting of dividends.

At this rate, it would take the investor roughly 14 years to reach their goals. This is not bad.
If money is tight, and our investor can only afford to put $2,000 to work each month, they can reach their goal within roughly 17.50 years. If the investor can put only $1,000 to work every month, they will be able to generate $30,000 in annual dividend income after 24 years. I used the spreadsheet in this article to calculate the different scenarios.

In this article, I showed that it pays to focus on the end goal in mind when investing for retirement. The first step involves coming up with a target monthly dividend income to pay for retirement expenses. The next step involves creating a dividend strategy that allows the investor to build a dividend portfolio that showers them with a growing stream of dividend income. Depending on current condition, investors can see how each dollar they invest generates a certain amount of dividend income. As a result, investors can see their progress towards the coveted dividend crossover point after every new investment they make, after every dividend increase and after every single action to reinvest dividends. By investing regularly, keeping investment costs low, and sticking to their strategy through thick or thin, our investors have a very high chance of hitting their retirement objectives.

Thank you for reading!

Relevant Articles:

Dividend Investing Resources I Use
Financial Independence Is Easier to Model with Dividends
- What drives future investment returns?
Generate a retirement paycheck with these dividend stocks

Thursday, April 4, 2019

Dividend Investing Resources I Use

I am frequently asked by readers about resources I use. While I have discussed before the resources I use to monitor my holdings, and I have compiled before information on resources before, those lists are forever changing. As I have done this for over a decade, I continuously add, test and remove tools from my list. However, I also have to keep in mind the fact that this site is read by investors with varying levels of experience. Therefore, I have decided to list a few free resources that may be helpful for any dividend investor out there.

The first resource that I have been using for several years is the list of Dividend Champions, Contenders and Challengers, that used to be maintained by Dave Fish. Unfortunately, Dave passed away last month. While a June list was published by someone else, I am afraid that noone will take the leadership role that Dave had in painstakingly updating that monster spreadsheet every month for a decade!

The site also includes links to some international dividend growth stock lists focusing on UK, Canada, Swedish securities.

The second resource I have leveraged is Morningstar. I have found Morningstar to be helpful in providing a quick ten year snapshot of a company’s financials. Under the following link, you can view the ten year financials for Johnson & Johnson.

Monday, April 1, 2019

Walgreens Boots Alliance (WBA) Dividend Stock Analysis

Walgreens Boots Alliance, Inc. (WBA) operates as a pharmacy-led health and wellbeing company. It operates through three segments: Retail Pharmacy USA, Retail Pharmacy International, and Pharmaceutical Wholesale.

Walgreens is a dividend champion, with 43 consecutive years of annual dividend increases under its belt.

Over the past decade, Walgreens managed to double earnings per share from $2.03 in 2007 to $5.05 in 2018. The company is expected to earn $6.46/share in 2019.

Growth in earnings per share should come from acquisitions, such as the recent purchase of close to 2,000 Rite Aid stores. This will increase Walgreen’s scale, which could result in a competitive position that results in lower costs for drugs from manufacturers for example. In addition, those acquisitions could result in synergies that add to Walgreen’s bottom line. As a growing portion of population is aging, the amount of prescriptions is only going to increase, offset by the increased penetration of cheaper generic drugs. One of the reasons why I like Walgreen’s and CVS today is the fact that everyone seems to be worried about the potential impact of Amazon disrupting their business model. Based on my research, it would be very difficult for Amazon to replicate the scale of operations in purchasing and efficiently serving clients, the relationships with Pharmacy Benefits Managers, the specialty drug business, and the regulatory hurdles to operate the business in this sector. This is why I believe that the recent weakness is a buying opportunity, since it provides an attractive entry point for long-term investors. This weakness in the share price could also bode well for share buybacks.

Over the past decade, the number of shares outstanding has increased slightly. The company repurchased shares between 2007 and 2012, bringing the total number of shares outstanding from a little over 1 billion shares to 880 million. The subsequent purchase of a 45% stake Alliance Boots in 2012 and the acquisition in 2015 led to an increase in the number of shares to 1.09 billion in 2015. After a few years of buybacks, the number of shares outstanding is down to 995 million.

Over the past decade, the company has managed to increase the amount of its dividends by a factor of five. Walgreen’s paid an annual dividend of 33 cents/share in 2007, which has increased to $1.64/share by 2018. Just a few months ago, the company raised its quarterly dividend by 10% to 44 cents/share.

Walgreen’s was able to increase its dividends at a rate that was higher than earnings growth due to the expansion of its dividend payout ratio. Between 2007 and 2018, the dividend payout ratio increased from 16% to 40%. Going forward, I expect a much smaller room for expansion in the dividend payout ratio than before. However, I would still expect dividend growth to slightly exceed earnings growth over the next decade. But do not expect dividends per share to grow by a factor of five – I would be satisfied with a doubling of the amount of earnings and dividends over the next decade.

I find Walgreen’s to be cheap at 9.80 times forward earnings. The stock yields 2.80% and has a forward payout ratio of 27%. The dividend has a high safety score, and I believe that the stock price reflects the uncertainty that we all hear about in the news. I believe that the low valuation is unwarranted, and would be corrected at some point. If this comes out through a valuation expansion and an increase in earnings power, this could lead to great returns. For long-term accumulators of assets like me however, I am fine if I can continue buying regularly when the stock price is down.

Relevant Articles:

Should I be adding to CVS and Walgreen’s?
Three Dividend Growth Stocks Rewarding Shareholders With A Raise
What drives future investment returns?
2019 Dividend Champions List

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