How to Build a Retirement Dividend Portfolio with only $1000/month

Most articles on retirement investing assume that a lump sum of approximately $1 million is invested in order to provide income in retirement. In reality however, few individuals receive a lump-sum of such proportions all at once. Instead, many individual investors end up with a substantial nest-egg through long-term saving and investing. This long-term investing utilizes the power of compounding during the time it took to accumulate the nest egg. With dividend investing, instead of focusing on an asset number, investors typically focus on generating a specific amount of income. In a previous article I discussed the ways to increase your dividend income.

The way that younger dividend investors should approach retirement is no different. They should save a set amount of funds each month and purchase quality dividend stocks that are attractively priced at the time. After that, they should strive to reinvest dividends selectively or using drips. As they build their portfolios over time, investors in the accumulation stage should also avoid concentrating their efforts on just a handful of stocks. In order to have a properly diversified portfolio, which will withstand dividend cuts during financial crises, investors in the accumulation stage should hold at least 30 individual domestic and international securities representative of the ten market sectors in the S&P 500.

Diversification is not a silver bullet however, as certain risks, such as market risk cannot be diversified away, unless of course a non-correlated asset such as Real Estate or Fixed Income is added to the portfolio mix. In addition, investors should not diversify for the sake of diversification, and should stick to purchasing quality dividend stocks and attractive valuations.

So how can one accumulate a dividend portfolio that would generate sufficient dividend income in retirement?

I ran the numbers using the following assumptions:

An investor saves $1000/month and is able to allocate them to dividend growth stocks which yield 3% at the time and grow distributions at 7% per year. At that rate the distributions will double every ten years. This investor will also re-invest the accumulated dividends into more shares of dividend growth stocks yielding 3% which grow distributions at 7% per year.
This means that in year 21, this investor will be able to generate over $20,000 in annual dividend income based off the $240,000 investment. The purchasing power of this investment will be cut in half assuming a 3% annual rate of inflation.

In order to increase their dividend income, the investor should either save a higher amount of money every month or they should let their investment compound for a longer period of time. Saving $2000/month will generate over $41,000 in dividend income in year 21. If one saves $2000/month for 30 years however, this would lead to an annual dividend income of $118,000 by year 31.

The types of dividend growth stocks that investors could purchase include:

PepsiCo, Inc. (PEP) engages in the manufacture, marketing, and sale of foods, snacks, and carbonated and non-carbonated beverages worldwide. The company has managed to boost dividends for 39 consecutive years, and has also managed to increase them by 13% per year over the past decade. Yield: 3.20% (analysis)

Wal-Mart Stores, Inc. (WMT) operates retail stores in various formats worldwide. The company has managed to boost dividends for 37 consecutive years, and has also managed to increase them by 17.80% per year over the past decade. Yield: 2.80% (analysis)

Abbott Laboratories (ABT) engages in the discovery, development, manufacture, and sale of health care products worldwide. The company has managed to boost dividends for 39 consecutive years, and has also managed to increase them by 8.80% per year over the past decade. Yield: 3.80% (analysis)

Colgate-Palmolive Company (CL), together with its subsidiaries, manufactures and markets consumer products worldwide. The company has managed to boost dividends for 48 consecutive years, and has also managed to increase them by 12.40% per year over the past decade. Yield: 2.70% (analysis)

Kimberly-Clark Corporation (KMB), together with its subsidiaries, engages in the manufacture and marketing of health care products worldwide. The company has managed to boost dividends for 39 consecutive years, and has also managed to increase them by 9.20% per year over the past decade. Yield: 4.20% (analysis)

In addition, this example did not account for taxes. If investors could afford to stash away as much as possible in tax deferred accounts which let them compound their investments tax free for decades, they will avoid paying the tax man every year out of their investment returns. The drawback is that withdrawals from such accounts are difficult and costly to make if one wants to retire before the age of 59.

Relevant Articles:

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Five Show me the money dividend stocks

Investors can realize a return on investment either in the form of capital gains or whenever they receive a dividend. Capital gains are tricky, since if they are not realized they could disappear and quickly turn into unrealized losses. The volatile market environment over the past several months has lead to trillions of dollars in stock market losses worldwide. As a result, more investors are seeking to invest in stable corporations, which provide positive feedback every quarter in the form of cash dividends. Particularly of interest are the stocks of these companies which not only pay a stable dividend, but can also afford to grow that dividend. As a result, investors of such dividend paying stocks are not at the mercy of the market in order to generate returns from their investments. They could afford to patiently wait on the sidelines, and get paid for doing so, while the irrational Mr. Market zig-zags.

The following dividend growth stocks raised distributions to shareholders over the past week:

McCormick & Company, Incorporated (MKC) engages in the manufacture, marketing, and distribution of flavor products and other specialty food products to the food industry worldwide. It operates in two segments, Consumer and Industrial. The company raised its quarterly distributions by 10.70% to 31 cents/share. This marked the 26th consecutive annual dividend increase for this dividend champion. Yield: 2.70% (analysis)

Becton, Dickinson and Company (BDX), a medical technology company, develops, manufactures, and sells medical devices, instrument systems, and reagents worldwide. The company raised its quarterly distributions by 9.80% to 45 cents/share. This marked the 99th consecutive annual dividend increase for this dividend champion. Yield: 2.50% (analysis)

Hormel Foods Corporation (HRL), together with its subsidiaries, produces and markets various meat and food products in the United States and Internationally. The company raised its quarterly distributions by 17.60% to 15 cents/share. This marked the 46th consecutive annual dividend increase for this dividend champion. Yield: 2.10%

Lancaster Colony Corporation (LANC) engages in the manufacture and marketing of consumer products focusing primarily on specialty foods for the retail and foodservice markets in the United States. The company operates in two segments, Specialty Foods, and Glassware and Candles. The company raised its quarterly distributions by 9.10% to 36 cents/share. This marked the 49th consecutive annual dividend increase for this dividend champion. Yield: 2.20%

United Bankshares, Inc. (UBSI), through its subsidiaries, provides commercial and retail banking services and products in the United States. The company raised its quarterly distributions by 3.30% to 31 cents/share. This marked the 38th consecutive annual dividend increase for this dividend champion. Yield: 5%

Full Disclosure: Long MKC

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Should you follow Buffett’s latest investments?

Warren Buffett is one of the most successful investors of all time. He has been able to transform a small textile company into a $200 billion conglomerate, with interests in insurance, manufacturing, utilities and railroads. One of the most followed segment of the business however is the investment portfolio. In a previous article, I discussed how investors who closely followed Buffett’s moves in the Berkshire Hathaway (BRK.B) stock portfolio between 1976 and 2006 would have significantly outperformed the market.

The company is required by the SEC to publicly disclose its stock holdings each quarter. Sometimes, Buffett is able to request an exception for holdings he is in the process of accumulating. This is to ensure that investors who closely follow his trades do not bid up the prices of stocks he is purchasing, while he is building up his positions.

Over the past week, Berkshire Hathaway disclosed new holdings in International Business Machines (IBM), Visa (V) and Direct TV (DTV), Intel (INTC), CVS Caremark (CVS) and General Dynamics (GD). I have long speculated that Buffett is a closet dividend investor. Indeed, Berkshire’s portfolio generates over $1.40 billion in annual dividend income. Most of the new additions represent stocks which could easily be characterized as dividend growth companies. I have analyzed each one below, in order to determine if they are decent buys at the moment.

International Business Machines Corporation (IBM) provides information technology (IT) products and services worldwide. Big Blue has paid dividends for 100 years, and raised them for each of the past 16 years. The company has been able to transform itself from a hardware company to service and consulting juggernaut. I would consider initiating a position in IBM on dips below $150. The major issue with IBM is the low yield of 1.70%. (analysis)

Intel Corporation (INTC) engages in the design, manufacture, and sale of integrated circuits for computing and communications industries worldwide. The leader in microprocessors has been able to raise distributions for 8 years in a row. I would consider adding the stock to my portfolio in a few years. Yield: 4.10% (analysis)

Visa Inc. (V) operates retail electronic payments network worldwide. It facilitates commerce through the transfer of value and information among financial institutions, merchants, consumers, businesses, and government entities. Since initiating a dividend in 2008, the company has raised it three times. Given its low payout ratio, and expected growth in EPS, Visa has the potential to become the next big dividend growth stock. Yield: 0.70%

General Dynamics Corporation (GD) provides business aviation, combat vehicles, weapons systems and munitions, military and commercial shipbuilding, and communications and information technology products and services worldwide. This dividend achiever has managed to boost distributions for 20 years in a row. Betting on this firm means betting that US will continue engaging in war activity in the future, and that the budget deficits would not decrease the appetite for military equipment. Yield: 3%

CVS Caremark Corporation (CVS) operates as a pharmacy services company in the United States. The company has managed to boost distributions for 8 years in a row. Yield: 1.50%

Overall, I find all of these as great businesses, which fit the Buffett model of having durable competitive advantages, pricing power and strong cash flow generation. Of all, I find Visa has the potential to be a great dividend growth story for the next few decades. Visa and MasterCard (MA) are basically a duopoly, which will certainly benefit from an increasing number of cashless transactions globally. Despite the low current yield, and the fact that the shares are close to being overvalued currently, I found the megatrends powerful enough to initiate a position in the stock. The long term dividend growth and total return potential of a company like Visa is hard to ignore. Thus being said, from a risk management perspective, I will only keep a smaller position in the company.

Full disclosure: Long V

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This article was featured in Carnival of Personal Finance #337

Twelve income stocks boosting distributions

As I mentioned in a previous article, the most satisfying press release coming from a dividend paying corporation, is the one announcing a dividend increase. For dividend growth investors, who have analyzed the company and purchased its stock based on the dividend growth capabilities of that business, this provides a strong almost instantaneous feedback in the form of a higher reward. After all, a company which can afford to continuously to raise distributions year after year, will generate rising returns on investment for investors who were shrewd enough to select it at the right time. The consistency of dividend increases, ensures that investors can live off that income stream and attain financial independence.

Below, I have highlighted twelve cash machines, which announced dividend increases over the past week. All of the companies listed below have raised distributions for at least five consecutive years:

Brown-Forman Corporation (BF-B) engages in manufacturing, bottling, importing, exporting, and marketing alcoholic beverages. The company raised its quarterly dividend by 9.40% to 35 cents/share. This marked the 28th consecutive annual dividend increase for this dividend champion. Yield: 1.90% (analysis)

Sysco Corporation (SYY), through its subsidiaries, engages in the marketing and distribution of a range of food and related products primarily to the foodservice or food-away-from-home industry. The company raised its quarterly dividend by 3.80% to 36 cents/share. This marked the 10th consecutive annual dividend increase for this dividend champion. Yield: 4% (analysis)

National Bankshares, Inc. (NKSH) operates as the holding company for the National Bank of Blacksburg, a chartered national bank that provides a range of retail and commercial banking services to individuals, businesses, non-profits, and local governments in Virginia. The company raised its semi-annual dividend by 8.30% to 52 cents/share. This marked the 12th consecutive annual dividend increase for this dividend achiever. The company has raised dividends two times in the past year. Yield: 4%

The Laclede Group, Inc. (LG), through its subsidiaries, engages in the retail distribution, sale, and marketing of natural gas. The company raised its quarterly dividend by 2.50% to 41.50 cents/share. This marked the ninth consecutive annual dividend increase for the stock. Yield: 4%

The Williams Companies, Inc. (WMB), through its subsidiaries, engages in finding, producing, gathering, processing, and transporting natural gas primarily in the United States. The company raised its quarterly dividend by 25% to 25 cents/share. This marked the second dividend increase this year for Williams Companies, which has raised distributions for 8 years in a row. Yield: 3.30%

MDU Resources Group, Inc. (MDU) operates as a diversified natural resource company in the United States. The company generates, transmits, and distributes electricity, as well as distributes natural gas. The company raised its quarterly dividend by 3.10% to 16.75 cents/share. This marked the 21st consecutive annual dividend increase for this dividend achiever. Yield: 3.30%

NIKE, Inc. (NKE), together with its subsidiaries, engages in the design, development, marketing, and sale of footwear, apparel, equipment, and accessory products for men, women, and children worldwide. The company raised its quarterly dividend by 16.10% to 36 cents/share. This marked the 10th consecutive annual dividend increase for this dividend achiever. Yield: 1.60%

Union Pacific Corporation (UNP), through its subsidiary, Union Pacific Railroad Company, provides rail transportation services in North America. The company raised its quarterly dividend by 26.30% to 60 cents/share. This marked the 6th consecutive annual dividend increase for this dividend stock. Yield: 2.40%

New Jersey Resources Corporation (NJR) provides retail and wholesale energy services. It operates in two segments, Natural Gas Distribution and Energy Services. The company raised its quarterly dividend by 5.60% to 38 cents/share. This marked the 17th consecutive annual dividend increase for this dividend achiever. Yield: 3.20%

Royal Gold, Inc. (RGLD), together with its subsidiaries, engages in the acquisition and management of precious metal royalties. The company raised its quarterly dividend by 36.40% to 15 cents/share. This marked the 11th consecutive annual dividend increase for this dividend achiever. Yield: 0.80%

The Hanover Insurance Group, Inc. (THG), through its subsidiaries, underwrites commercial and personal property, and casualty insurance coverage in the United States. The company raised its quarterly dividend by 9.10% to 30 cents/share. This marked the 8th consecutive annual dividend increase for this dividend stock. Yield: 3.20%

StanCorp Financial Group, Inc. (SFG), through its subsidiaries, provides group insurance products and services in the United States. The company raised its annual dividend by 3.50% to 89 cents/share. This marked the 14th consecutive annual dividend increase for this dividend stock. Yield: 2.70%

Full disclosure: Long BF-B and SYY

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Microsoft (MSFT) Dividend Stock Analysis

Microsoft Corporation (MSFT) develops, licenses, and supports a range of software products and services for various computing devices worldwide. Microsoft has paid uninterrupted dividends on its common stock since 2003 and increased payments to common shareholders every year for 7 years. The company is one of four AAA rated companies in the US.

The most recent dividend increase was in September 2011, when the Board of Directors approved a 25% increase in the quarterly dividend to 20 cents/share. Microsoft ’s largest competitors include Apple (AAPL), Google (GOOG) and Oracle (ORCL).

Over the past decade this dividend growth stock has delivered an annualized total return of 2.10% to its shareholders.

The company has managed to deliver a 16 % annual increase in EPS since 2001. Analysts expect Microsoft to earn $2.79 per share in 2012 and $3.08 per share in 2013. In comparison Microsoft earned $2.69 /share in 2011. The company has consistently managed to repurchase 3% of its outstanding stock since 2002.

Microsoft is an example of a pure growth company, which has matured and become an income stock. The beauty of the company is that it still generates solid earnings growth and its Windows operating system is the backbone of businesses and consumers software needs worldwide. Most businesses worldwide are used to Word, Excel, Access and Powerpoint. As a result, it would be virtually impossible for a competitor to make these users switch to a different product. With corporations upgrading existing systems every 4 -5 years, Microsoft will be able to keep its toll-like business model on the PC market for years.

Microsoft has been relatively successful in its investments in other technology companies such as Apple (AAPL) and Facebook. Microsoft purchased shares of Apple back in 1997, but sold them in the early 2000’s. The investment in Facebook at a $15 billion valuation looked silly at the time, although now Facebook’s valuation is several times that.

The big challenge for Microsoft includes the market for handheld tablet devices. As consumers increasingly switch to these products, failure to capitalize on that trend could jeopardize the company’s future profitability. The major software system for mobile phones is Google’s Android, which has been widely popular with consumers. On the negative side, Microsoft has tried breaking into markets such as search advertising, mobile phones and video games, but has been unable to create the type of blockbuster business franchise, that the Windows operation has been for the past two decades.

The problem with tech stocks in general is that creating a long-standing moat is difficult, as technologies change all the time. As a result, companies need to keep reinvesting profits in research and development just so that they stay current on new technologies. For example, Microsoft has had a virtual monopoly on software for PC’s with its Windows system. However, if more consumers choose to replace PCs with tablets, Microsoft will be unable to generate high profits. As a result, it is difficult to predict what the future for Windows will be over the next two decades.

The company’s Returns on Equty has tripled over the past decade, to a mind boggling 45% in 2011. Rather than focus on absolute values for this indicator, I generally want to see at least a stable return on equity over time.

Microsoft started paying dividends in 2003, and paid a onetime special dividend of $3/share in 2004. The annual dividend payment has increased by 11.50% per year since 2005, which is lower than the growth in EPS. I would expect Microsoft to keep increasing in dividends at 10% per year at least until it reaches dividend achiever status.

A 12% growth in distributions translates into the dividend payment doubling every six years. If we look at historical data, going as far back as 2005 we see that Microsoft has managed to double its dividend almost every 6 years on average.

The dividend payout ratio has been stable between 20% and 30% since 2004. A lower payout is always a plus, since it leaves room for consistent dividend growth minimizing the impact of short-term fluctuations in earnings.

Currently Microsoft is attractively valued and is trading at 9.30 times earnings, yields 3.00% and has a sustainable forward dividend payout. I would keep Microsoft on my radar, as it would be eligible for inclusion in my dividend growth portfolio when it becomes a dividend achiever.

Full Disclosure: None

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