what's worth worrying about?
let's face it, we're facing an absolute firehose of information about bad things happening in the world.
A bomb goes off in Sri Lanka, and we here about it. A child is taken by the gypsies and we hear about it. The wheels come off at congress and they send the entire federal workforce home for 2 weeks. No way you're not going to hear about that! You wonder about your job, your bills, whether your child is getting bullied at school. Maybe you have cancer and don't know about it!
God, just let me live until my boy graduates from high school....no, college...or maybe grad school!
In the last 10 years, one of the biggest stressors I have experienced is money. Interesting, because the last 10 years have been the my highest earning years. So what's to worry about, then? Well, everything.
Too much obligation...too big a house, too big a mortgage, too many ventures, too much leverage.
That's a lesson you can only learn by experience. I can't imagine a personal finance class in junior college that will bring home the impact of having signed up for obligations that make the things you own end up owning you.
What does that have to do with retirement investing? First, it has to do with living within your means. You get used to your lifestyle and it's hard to give up stuff. Better to have never reached for that extra luxury when you're buying on credit. Second; it has to do with following the right metrics.
Running in the background are the security things...insurance, savings, dental appointments, vaccinations. You have to have these things in order, or your foundation is shaky.
Then, there's the worry about whether your savings and investments are doing at least as well as expected. I have a very hard time understanding whether my wife's company plan funds are doing well or not. I have a hard time with the TIAA CREF account ( all 10 grand of it) where I invested 3K in 1994-5. That's 18 years ago, so I guess it's doing a bit better than 5%. Hmm.... I cashed out the annuity; clearly not doing well when they charged yearly fees and it wasn't worth a dime more than the day I bought it.
Since I took over the management of my retirement plan, the performance is purely my responsibility. I find that anxiety easier to manage than the constant concern about the performance and trustworthiness of the adviser. I could see he was earning commissions; whose interest came first?
Well, I aligned ALL the interests when I hired me for the job.
I'm still in the process of switching my focus from the size of the account to how it is growing income. After all, the nature of the value of a stock portfolio is to fluctuate. Dividends blunt the dips by a few percent, but they aren't adequate to hide a "market correction". One problem is that all of the brokerage reporting is designed to look at capital gain/loss, realized or not. There isn't a screen that tracks the current value of the dividend stream, computed to a yearly income. That' a shame for us dividend growth investors. After all, along with the monitering of the health of our companies' earnings growth, profits, payout ratio, dividend growth, it's the yearly dividend income that is the primary metric for success in DG investing. If that number is rising, most likely all else is well.
I've learned to live with some uncertainty. I've learned the hard way not to over-leverage. I have learned the true meaning of "margin of safety" where it comes to personal finance. It's not worth sleepless nights and financial brinksmanship to reach for a few more dollars of investment gains.
Those are worries you can easily avoid if you see them coming. That's the trick, to see them coming.
More on that later....
Wednesday, October 23, 2013
Saturday, October 12, 2013
What is a good dividend stock?
People buy stocks with the objective the ownership in a company will earn them money. There are three ways to profit from stock ownership; growth in the value of a share, acquisition of more shares, and receipt of dividends.
Value grows with rising earnings. Companies that pay dividends also increase in value as the dividend rises, with one caveat; the earnings have to be rising as well. Another way to see one's personal stake grow is if the company is reducing share count by buying back and retiring shares. If the company is merely buying back shares to offset large executive options grants, then buybacks probably won't do much to grow value. A declining share count with static earnings results in higher earnings per share and rising stock price. A declining share count with rising earnings is a ticket to substantial capital gains.
If you are buying dividend paying stocks it makes sense to look for stocks whose dividends are rising over time. Rising earnings and rising dividends means more cash in your pocket, as well as rising valuation of your holdings. if you then add in reinvestment of dividends, the virtuous cycle of compounding accelerates the value of your growing position.
So how do you spot a good investment prospect?
Start with a history of rising earnings. Determine the rate of growth in earnings over 5 and 10 years
Check against rising earnings per share, and growth or decline in share count.
Look for rising dividends. Determine the rate of growth of dividends over 5 and 10 years.
A smart investor who writes on Seeking Alpha recommends that stocks meet a threshold of
dividend yield + dividend growth rate over 5 years >/= 12. For REITS and MLPs, >/= 8
Understand that a company paying 2% dividend with a 10% dividend growth rate will take some time to double the dividend; 7 years to be exact. During that time, share count isn't growing all that fast, but you hope that valuation is growing, if the majority of earnings are retained to reinvest in the company, or retire shares.
The REIT or MLP, which tend to have higher dividend payments, will result in more rapid share accumulation if you are reinvesting dividends, so a slower growth in valuation will still yield an acceptable total return.
I tend to be a "show me the money" kind of guy, so I have tended to purchase higher yielding companies and have allowed the DRIP to accelerate the total yield.
I have learned the hard way that high dividend paying companies are more risky, because anything that effects earnings puts the dividend at risk, and a dividend cut always produces a big loss in valuation of shares. If you want to follow WB's first rule; "never lose money", you'd better avoid dividend cuts. That means buying companies whose earnings are rising and who can easily cover the dividend out of operating cash flow.
So, the ideal dividend growth stock is one where earnings rise steadily, the dividend rises steadily and the dividend is well covered by cash flow.
There are a number of other things to think about; On what are earnings dependent ? mREITs earnings are dependent on interest rate spreads. Drilling company's earnings are often dependent on the price of oil. If prices drop, drilling slows. Drilling companies with lots of debt incurred to buy expensive driling equipment will be at risk for plummeting earnings and loss of dividend payments.
So what about debt? Is debt covered well by earnings? In the case of utilities, they carry substantial
debt, but earnings are assured through regulated rates. The last thing people do is turn off the electricity, even in hard times. So, lower payout ratios mean plenty of room for dividend growth.
Finally, if earnings growth rates are declining, dividend growth rates are declining, it may be time to move your money elsewhere.
I have come to the conclusion that low volatility and reliable and steady total return in the 8-10% range is a very acceptable goal. "Beating the market" is a fools game. A 3% dividend, reinvested and 5% growth rate in valuation can be quite adequate, if it is relentless. The fact is, large cap, blue blood dividend paying stocks are returning 8-15% per year total return and you don't have to find hidden gems to do very well. I am increasingly confident that I can manage my own retirement savings with acceptable yields and very low costs of investing and never access another "expert" again. After building a foundation of some of the best dividend stocks in the world, I'm now adding some lower yield, faster growth companies to the mix.
There's lots to learn about picking dividend stocks, but the good news is there's lots of help. The Dividend Champion, Contenders and Challengers list is extraordinarily helpful. Seeking Alpha Dividend and Income Investing has a number of excellent writers who can clarify important concepts. I learned what I know by reading, reading, reading. I have made my mistakes. I'll certainly make some more. On the balance, though, I'm doing pretty well managing my own future security.
Value grows with rising earnings. Companies that pay dividends also increase in value as the dividend rises, with one caveat; the earnings have to be rising as well. Another way to see one's personal stake grow is if the company is reducing share count by buying back and retiring shares. If the company is merely buying back shares to offset large executive options grants, then buybacks probably won't do much to grow value. A declining share count with static earnings results in higher earnings per share and rising stock price. A declining share count with rising earnings is a ticket to substantial capital gains.
If you are buying dividend paying stocks it makes sense to look for stocks whose dividends are rising over time. Rising earnings and rising dividends means more cash in your pocket, as well as rising valuation of your holdings. if you then add in reinvestment of dividends, the virtuous cycle of compounding accelerates the value of your growing position.
So how do you spot a good investment prospect?
Start with a history of rising earnings. Determine the rate of growth in earnings over 5 and 10 years
Check against rising earnings per share, and growth or decline in share count.
Look for rising dividends. Determine the rate of growth of dividends over 5 and 10 years.
A smart investor who writes on Seeking Alpha recommends that stocks meet a threshold of
dividend yield + dividend growth rate over 5 years >/= 12. For REITS and MLPs, >/= 8
Understand that a company paying 2% dividend with a 10% dividend growth rate will take some time to double the dividend; 7 years to be exact. During that time, share count isn't growing all that fast, but you hope that valuation is growing, if the majority of earnings are retained to reinvest in the company, or retire shares.
The REIT or MLP, which tend to have higher dividend payments, will result in more rapid share accumulation if you are reinvesting dividends, so a slower growth in valuation will still yield an acceptable total return.
I tend to be a "show me the money" kind of guy, so I have tended to purchase higher yielding companies and have allowed the DRIP to accelerate the total yield.
I have learned the hard way that high dividend paying companies are more risky, because anything that effects earnings puts the dividend at risk, and a dividend cut always produces a big loss in valuation of shares. If you want to follow WB's first rule; "never lose money", you'd better avoid dividend cuts. That means buying companies whose earnings are rising and who can easily cover the dividend out of operating cash flow.
So, the ideal dividend growth stock is one where earnings rise steadily, the dividend rises steadily and the dividend is well covered by cash flow.
There are a number of other things to think about; On what are earnings dependent ? mREITs earnings are dependent on interest rate spreads. Drilling company's earnings are often dependent on the price of oil. If prices drop, drilling slows. Drilling companies with lots of debt incurred to buy expensive driling equipment will be at risk for plummeting earnings and loss of dividend payments.
So what about debt? Is debt covered well by earnings? In the case of utilities, they carry substantial
debt, but earnings are assured through regulated rates. The last thing people do is turn off the electricity, even in hard times. So, lower payout ratios mean plenty of room for dividend growth.
Finally, if earnings growth rates are declining, dividend growth rates are declining, it may be time to move your money elsewhere.
I have come to the conclusion that low volatility and reliable and steady total return in the 8-10% range is a very acceptable goal. "Beating the market" is a fools game. A 3% dividend, reinvested and 5% growth rate in valuation can be quite adequate, if it is relentless. The fact is, large cap, blue blood dividend paying stocks are returning 8-15% per year total return and you don't have to find hidden gems to do very well. I am increasingly confident that I can manage my own retirement savings with acceptable yields and very low costs of investing and never access another "expert" again. After building a foundation of some of the best dividend stocks in the world, I'm now adding some lower yield, faster growth companies to the mix.
There's lots to learn about picking dividend stocks, but the good news is there's lots of help. The Dividend Champion, Contenders and Challengers list is extraordinarily helpful. Seeking Alpha Dividend and Income Investing has a number of excellent writers who can clarify important concepts. I learned what I know by reading, reading, reading. I have made my mistakes. I'll certainly make some more. On the balance, though, I'm doing pretty well managing my own future security.
Thursday, October 10, 2013
A bit more of the "wisdom compendium"
Why should one consider dividend-producing stocks as a basis for long term investment. First, there's evidence that these stocks, as a group, outperform those that don't pay dividends. One can speculate why that is the case, but it appears to be true.
Second, they allow you, the owner, to decide how you'd like to allocate the income that dividends represent. You can DRIP, or selectively reinvest, hold cash, take cash and pay living expenses. Eventually, all of us will have to draw against that retirement account.
I, for one, don't want to have to start converting investments into cash producing vehicles at retirement, or sell a piece of the portfolio to pay the bills. I'm developing my cash-producing machine now, so when it's time to flip the switch to distributions, the machine is already in place and mature.
The other is that dividends allow one to compound the growth in the position. A company that pays no dividends may invest all earnings in excess of expenses back into the income producing activity. Or, they may buy up stuff that isn't relevant to the business. They may pay way too much for that stuff. They may buy back their own shares at high valuation points. I wouldn't buy the stock when it's overvalued!? They may make outsize options grants to executives. They may hold cash in overseas accounts to avoid US taxation. They may do any number of things, except help you grow your position with more cash. Changes in valuation are un-realized gains or losses. They may be here today and gone tomorrow. Cash in your hand is tangible.
So dividends are nice. What about really big dividends? Remember, the company has to have cash to pay a dividend. It could issue stock, but if that dilutes the value of the existing stock, how can that help? Really big dividends mean the cash flow has to be large, and secure, or the dividend isn't secure. Most people think the sweet spot for dividends is around 3%, with payout ratio below 50%, except for certain classes of company like utilities, whose regulated rates produce earnings that are extraordinarily predictable, and REITS who are required by law to distribute 90% of their profits to shareholders. For these types of company, the growing value of your position is even more dependent on re-investment of dividends, as retained earnings within the company would be the engine for expansion and earnings growth. If you're giving it all away to shareholders, there isn't that much left over to invest in the business.
more on this later....
Why should one consider dividend-producing stocks as a basis for long term investment. First, there's evidence that these stocks, as a group, outperform those that don't pay dividends. One can speculate why that is the case, but it appears to be true.
Second, they allow you, the owner, to decide how you'd like to allocate the income that dividends represent. You can DRIP, or selectively reinvest, hold cash, take cash and pay living expenses. Eventually, all of us will have to draw against that retirement account.
I, for one, don't want to have to start converting investments into cash producing vehicles at retirement, or sell a piece of the portfolio to pay the bills. I'm developing my cash-producing machine now, so when it's time to flip the switch to distributions, the machine is already in place and mature.
The other is that dividends allow one to compound the growth in the position. A company that pays no dividends may invest all earnings in excess of expenses back into the income producing activity. Or, they may buy up stuff that isn't relevant to the business. They may pay way too much for that stuff. They may buy back their own shares at high valuation points. I wouldn't buy the stock when it's overvalued!? They may make outsize options grants to executives. They may hold cash in overseas accounts to avoid US taxation. They may do any number of things, except help you grow your position with more cash. Changes in valuation are un-realized gains or losses. They may be here today and gone tomorrow. Cash in your hand is tangible.
So dividends are nice. What about really big dividends? Remember, the company has to have cash to pay a dividend. It could issue stock, but if that dilutes the value of the existing stock, how can that help? Really big dividends mean the cash flow has to be large, and secure, or the dividend isn't secure. Most people think the sweet spot for dividends is around 3%, with payout ratio below 50%, except for certain classes of company like utilities, whose regulated rates produce earnings that are extraordinarily predictable, and REITS who are required by law to distribute 90% of their profits to shareholders. For these types of company, the growing value of your position is even more dependent on re-investment of dividends, as retained earnings within the company would be the engine for expansion and earnings growth. If you're giving it all away to shareholders, there isn't that much left over to invest in the business.
more on this later....
moving down the yield and risk curve
An interesting phenomenon has occurred;
Since I rolled my old 401k accounts to IRAs, no new money is going into them. Also, my new Schwab 401k (hybrid of traditonal and roth, rolled into one account) has been fully funded, I don't have any new money to play with.
What is occurring is that I am looking very hard at the holdings, comparing and contrasting them and reducing exposure to the more risky of them.
For example, as a part of my reading on bond funds, I learned that one should look hard at leverage in a rising interest rate environment. Funds borrow to invest. If interest costs go up, then investment performance tanks. So, I looked at the leverage ratios in the 4 funds I held, completely sold one and reduced exposure in another. Magically, some new cash was available to shore up some lower risk positions.
As another example, I realized that a high yield holding in the energy patch (SDRL) had returned almost 100% over the 4 years I have held it. SDRL carries a huge amount of debt as it buys and builds deep water drilling rigs. As long as they are constantly in use, the debt is covered and the payouts continue. If however, something causes a slow-down in drilling, those debts still have to be serviced, so down will go the payouts and down will go the valuation. So, I took my initial investment out and left the house money in the position. Alikazam! more cash to re-balance into higher quality dividends. My dividend income certainly took a hit, but I purchased more dividend growth prospects by working my way down the yield curve and purchasing lower risk stocks.
I'm still generally using the 3% dividend floor, but making minor exceptions for some blue-blood DGI issues such as KO, PG, GIS, KMB. I'm also driving down the entry price on some of these by using short-term at- or in-the-money cash covered puts. I can get 1-2% per month of premiums and keep the cash working; not bad for an amateur! I'll own the shares soon, at the premium discount.
I think it's now 6 years since I opened the first Roth 401k in Fidelity and started managing some money. It seems a lot less fearful now, since I have a strategy and understand much better how to select stocks that adhere to that strategy, as well as when and how to sell. I doubt that I have the "10,000 hours to mastery" under my belt, but I have a good 30-40% of that, and I pay alot of attention when I AM studying. I'm clocking along at 8-10% year in and year out, which makes me quite satisfied. I'm not constantly comparing my results to the S&P 500, rather paying attention that my dividend yield keeps rising. That'll be my retirement paycheck someday, and it keeps me less worried about valuation. Good news is, as dividends rise, valuation tends to follow.
Now it's late, and time for bed...
Since I rolled my old 401k accounts to IRAs, no new money is going into them. Also, my new Schwab 401k (hybrid of traditonal and roth, rolled into one account) has been fully funded, I don't have any new money to play with.
What is occurring is that I am looking very hard at the holdings, comparing and contrasting them and reducing exposure to the more risky of them.
For example, as a part of my reading on bond funds, I learned that one should look hard at leverage in a rising interest rate environment. Funds borrow to invest. If interest costs go up, then investment performance tanks. So, I looked at the leverage ratios in the 4 funds I held, completely sold one and reduced exposure in another. Magically, some new cash was available to shore up some lower risk positions.
As another example, I realized that a high yield holding in the energy patch (SDRL) had returned almost 100% over the 4 years I have held it. SDRL carries a huge amount of debt as it buys and builds deep water drilling rigs. As long as they are constantly in use, the debt is covered and the payouts continue. If however, something causes a slow-down in drilling, those debts still have to be serviced, so down will go the payouts and down will go the valuation. So, I took my initial investment out and left the house money in the position. Alikazam! more cash to re-balance into higher quality dividends. My dividend income certainly took a hit, but I purchased more dividend growth prospects by working my way down the yield curve and purchasing lower risk stocks.
I'm still generally using the 3% dividend floor, but making minor exceptions for some blue-blood DGI issues such as KO, PG, GIS, KMB. I'm also driving down the entry price on some of these by using short-term at- or in-the-money cash covered puts. I can get 1-2% per month of premiums and keep the cash working; not bad for an amateur! I'll own the shares soon, at the premium discount.
I think it's now 6 years since I opened the first Roth 401k in Fidelity and started managing some money. It seems a lot less fearful now, since I have a strategy and understand much better how to select stocks that adhere to that strategy, as well as when and how to sell. I doubt that I have the "10,000 hours to mastery" under my belt, but I have a good 30-40% of that, and I pay alot of attention when I AM studying. I'm clocking along at 8-10% year in and year out, which makes me quite satisfied. I'm not constantly comparing my results to the S&P 500, rather paying attention that my dividend yield keeps rising. That'll be my retirement paycheck someday, and it keeps me less worried about valuation. Good news is, as dividends rise, valuation tends to follow.
Now it's late, and time for bed...
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