It happened to KMI. Then it happened to Teekay. Now it's threatening to happen to Conoco Oil.
There was little revenue with energy prices in retrenchment to service their debt. That led to dividend cuts and devaluation of the capital value of the stock.
When 3/4 of the dividend is diverted to managing debt and development projects, the market responds with a similar devaluation of the stock price. This may not seem rational, given that cutting the dividend when facing earnings shortfalls is a prudent move that keeps cash for higher priority items, maintains debt ratings and avoids dilution of shareholder value by issuing more stock, avoids taking on more debt to pay a dividend, etc. The market isn't rational.
It IS rational for Saudi Arabia and Iran to produce all the oil they can if they can afford to sell it on the cheap.
So, you either take the haircut or sell and take the haircut, redeploying the reduced capital into another sector. I don't actually want to abandon energy stocks. I know that this time and it's distorted conditions will pass. I hate learning lessons this way, but how else?
If an entire sector melts down, my portfolio will surely take a hit. It won't be 1%; more like 5%.
That's painful. Oil has done similar things in the past. Oil is a commodity and commodity prices can be very volatile at times.
So, what should my response to this turn of events be? Should I take my
lumps like every other investor in the industry? Should I rotate out at
depressed valuations? My basic buy and hold mentality says "take it". My
anxiety says "sell". I experienced this before, with banks. They have
recovered substantially but I left a bunch of money on the table when I
abandoned BAC a long time back. I lost my shirt on WaMu. My basic instinct is to avoid panic and stay the course. I think that's what I'll end up doing.
Wednesday, December 23, 2015
Sunday, December 6, 2015
Panic in the oil patch
I have been watching the story unfold with Kinder Morgan over the last few months. I'm watching a 150% capital appreciation melt like an ice cube on the hot pavement.
It seems the credit rating agency, Moody, is concerned that KMI won't have the cash flow to service it's debt with energy prices in the toilet and many of it's upstream customers on the ropes. I guess the fee-based revenues are at risk if less gas is pumped. I hear that KMI has twice the leverage of it's peers, putting the dividend at risk. The market is rapidly discounting it's shares to account for a potential credit rating cut to "non-investment" status and a freeze or cut in the dividend.
So, here's where the rubber meets the road. Do I believe that KMI's business model is at risk?
Will debt take them down? Is a dividend cut and the valuation haircut that is already occurring enough to make me bail out and purchase something else with what remains of the value in that holding? Do I believe the long term thesis about natural gas? Could Richard Kinder take the company private and wipe out my ability to ride it back up when times change for the energy industry?
Interestingly, the "don't panic" folks point out that KMI's revenue streams are bullet-proof and their cash flow is secure, so the debt and the dividend are both secure. They say that the problem is that KMI can't raise more capital for expansion by either issuing equity at these low valuations, or by issuing more debt with their shaky credit rating, so growing new revenue won't work. They need the cash flow from the dividend to pay down debt. hmm....
I have ridden other companies down when the market got nervous. Actually, several: GE, BAC, LIN and LINCO, some energy storage speculative stocks. This may be another lesson learned about debt and credit rating. KMI has a BBB- credit rating, one tick above junk. When the debt gets too high and the revenue stream is considered to be at risk, down goes the credit rating, up goes the price of rolling over debt that is coming due. Debt service coverage and available revenue to grow the business...I'm continuing to learn, but this kind of learning is always painful.
I won't suffer too much; if KMI goes to zero, this year's dividends from the whole portfolio will more than cover the loss. That's the value of diversifying; a meltdown doesn't hurt you too much, but that's still hard on my future and points out what I don't know about protecting my portfolio from risk.
It seems the credit rating agency, Moody, is concerned that KMI won't have the cash flow to service it's debt with energy prices in the toilet and many of it's upstream customers on the ropes. I guess the fee-based revenues are at risk if less gas is pumped. I hear that KMI has twice the leverage of it's peers, putting the dividend at risk. The market is rapidly discounting it's shares to account for a potential credit rating cut to "non-investment" status and a freeze or cut in the dividend.
So, here's where the rubber meets the road. Do I believe that KMI's business model is at risk?
Will debt take them down? Is a dividend cut and the valuation haircut that is already occurring enough to make me bail out and purchase something else with what remains of the value in that holding? Do I believe the long term thesis about natural gas? Could Richard Kinder take the company private and wipe out my ability to ride it back up when times change for the energy industry?
Interestingly, the "don't panic" folks point out that KMI's revenue streams are bullet-proof and their cash flow is secure, so the debt and the dividend are both secure. They say that the problem is that KMI can't raise more capital for expansion by either issuing equity at these low valuations, or by issuing more debt with their shaky credit rating, so growing new revenue won't work. They need the cash flow from the dividend to pay down debt. hmm....
I have ridden other companies down when the market got nervous. Actually, several: GE, BAC, LIN and LINCO, some energy storage speculative stocks. This may be another lesson learned about debt and credit rating. KMI has a BBB- credit rating, one tick above junk. When the debt gets too high and the revenue stream is considered to be at risk, down goes the credit rating, up goes the price of rolling over debt that is coming due. Debt service coverage and available revenue to grow the business...I'm continuing to learn, but this kind of learning is always painful.
I won't suffer too much; if KMI goes to zero, this year's dividends from the whole portfolio will more than cover the loss. That's the value of diversifying; a meltdown doesn't hurt you too much, but that's still hard on my future and points out what I don't know about protecting my portfolio from risk.
Thursday, October 22, 2015
Betwixt and Between
I'm between contributions to the 401k; should be one last addition this year based on my calculations.
I pulled the trigger and dumped BXT and BXLT in the IRA due to a cut in the combined dividend and distributed the cash into 4-5 of my existing holdings that had fallen to under fair value.
The market has recovered substantially from it's correction a few months ago. I don't know why exactly; earnings haven't been electrifying, and the news out of China, Europe and elsewhere isn't exactly encouraging either.
Newsmakers continue to fixate on Federal Reserve policy with respect to interest rates. It seems like a non-issue to me. I can't imagine they will raise them much when they do, so I'm just not worrying about a market reaction. I learned to enjoy the opportunity to buy at a bargain this last dip and I'll look to the market's reaction to higher interest rates to augment my holdings in the best of my dividend payers.
I have continued to focus on the DRIP versus selective dividend investment issue and cannot convince myself to change my current strategy. I'm continuing to consider reigning in my company count, coordinating the 3 accounts a bit better and limiting the total holdings to around 50. The problem is, I like all of the holdings I have. There are still a few I'd like to own as well. Perhaps I'll just have to decide that my personal mutual fund will have 100 holdings and stop worrying about how closely I can monitor all of them. Some don't need that much monitoring after all.
I keep a nervous eye on that dividend cash flow, continuing to need the reassurance that it is steadily rising. Fortunately, that is exactly what is happening, so at the very least the strategy is delivering what it promises. I'd be more reassured if the total valuation of the portfolio were also rising; I'm still 5% below peak valuation in December 2014. Maturity in investing is a hard-won state of equanimity, and I have not achieved it yet.
In the bigger picture, I keep thinking about the overall financial picture, how to reduce expenses, lighten the footprint, free up space to do things other than work for wages, shorten the run to retirement. The biggest dilemma for me is whether or not to dump some cash value life insurance and get out from under the premium requirements. I have been in a huge funk about dissatisfaction with my work, making it that much harder to tolerate all of the financial obligations.
I don't have any new and profound insights, so it's time to hit the lights...
I pulled the trigger and dumped BXT and BXLT in the IRA due to a cut in the combined dividend and distributed the cash into 4-5 of my existing holdings that had fallen to under fair value.
The market has recovered substantially from it's correction a few months ago. I don't know why exactly; earnings haven't been electrifying, and the news out of China, Europe and elsewhere isn't exactly encouraging either.
Newsmakers continue to fixate on Federal Reserve policy with respect to interest rates. It seems like a non-issue to me. I can't imagine they will raise them much when they do, so I'm just not worrying about a market reaction. I learned to enjoy the opportunity to buy at a bargain this last dip and I'll look to the market's reaction to higher interest rates to augment my holdings in the best of my dividend payers.
I have continued to focus on the DRIP versus selective dividend investment issue and cannot convince myself to change my current strategy. I'm continuing to consider reigning in my company count, coordinating the 3 accounts a bit better and limiting the total holdings to around 50. The problem is, I like all of the holdings I have. There are still a few I'd like to own as well. Perhaps I'll just have to decide that my personal mutual fund will have 100 holdings and stop worrying about how closely I can monitor all of them. Some don't need that much monitoring after all.
I keep a nervous eye on that dividend cash flow, continuing to need the reassurance that it is steadily rising. Fortunately, that is exactly what is happening, so at the very least the strategy is delivering what it promises. I'd be more reassured if the total valuation of the portfolio were also rising; I'm still 5% below peak valuation in December 2014. Maturity in investing is a hard-won state of equanimity, and I have not achieved it yet.
In the bigger picture, I keep thinking about the overall financial picture, how to reduce expenses, lighten the footprint, free up space to do things other than work for wages, shorten the run to retirement. The biggest dilemma for me is whether or not to dump some cash value life insurance and get out from under the premium requirements. I have been in a huge funk about dissatisfaction with my work, making it that much harder to tolerate all of the financial obligations.
I don't have any new and profound insights, so it's time to hit the lights...
Saturday, September 19, 2015
fair value looks like a bargain
Well, I didn't sit on that cash for very long. I added some companies I'd been eyeing for some time. I have a bit of cash left over; can augment a position or start a fractional position. But, what is my point here?
The market has been richly valued for some time. Highly desirable dividend paying companies have broadly declined, in some cases to historic P/E ratios. Yields have risen accordingly, so my yield threshold was met for my recent purchases. In fact, I don't know if there will be a continued correction all the way to a bear market and if it happens, it will look like I didn't have adequate patience. On the other hand, I think the prices I paid are acceptable, so I'm not given to second guessing purchases. I'm not a market timer. I ask my self if the company is one I want in the portfolio based on credit quality, earnings history, dividend history and then I ask if the price is at or below fair value. If so, then I buy if the cash is in the bank. There may be a better deal down the line, but idle cash isn't collecting dividends. Once I have that position established, subsequent lower prices means the DRIP helps to bring the average purchase price down. I could fret over missing the nadir, but I'm more interested in building the cash producing engine than I am about precisely hitting lowest price points.
I bought UNP and CMI. I look at transportation and industrials as parts of a 'super sector'. One could throw transportation into retail as well, but I think I relate retail more to trucking than to railroads.
I have been building out the industrials rather slowly, but it won't be long before my basket of industrials is substantially complete. I have a nice basket of consumer defensives, utilities, energy stocks, telecoms, consumer discretionals, technology, financials, health care and real-estate. I have a few bond funds, some MLPs. The only sector I'm steering clear of is basic materials. Someday I might approach that one, but not now.
I'm happy with the diversification. I wasn't expecting to hold over 50 issues, but I'm up around 70 between 3 accounts. So far it doesn't seem to be a burden keeping track of them. We'll see how that feels over time.
The market has been richly valued for some time. Highly desirable dividend paying companies have broadly declined, in some cases to historic P/E ratios. Yields have risen accordingly, so my yield threshold was met for my recent purchases. In fact, I don't know if there will be a continued correction all the way to a bear market and if it happens, it will look like I didn't have adequate patience. On the other hand, I think the prices I paid are acceptable, so I'm not given to second guessing purchases. I'm not a market timer. I ask my self if the company is one I want in the portfolio based on credit quality, earnings history, dividend history and then I ask if the price is at or below fair value. If so, then I buy if the cash is in the bank. There may be a better deal down the line, but idle cash isn't collecting dividends. Once I have that position established, subsequent lower prices means the DRIP helps to bring the average purchase price down. I could fret over missing the nadir, but I'm more interested in building the cash producing engine than I am about precisely hitting lowest price points.
I bought UNP and CMI. I look at transportation and industrials as parts of a 'super sector'. One could throw transportation into retail as well, but I think I relate retail more to trucking than to railroads.
I have been building out the industrials rather slowly, but it won't be long before my basket of industrials is substantially complete. I have a nice basket of consumer defensives, utilities, energy stocks, telecoms, consumer discretionals, technology, financials, health care and real-estate. I have a few bond funds, some MLPs. The only sector I'm steering clear of is basic materials. Someday I might approach that one, but not now.
I'm happy with the diversification. I wasn't expecting to hold over 50 issues, but I'm up around 70 between 3 accounts. So far it doesn't seem to be a burden keeping track of them. We'll see how that feels over time.
Sunday, September 13, 2015
knawing on the old bone...
Is I was doing my nightly investment reading (sad isn't it, that I am doing this rather than reading a good novel, no?) I came across another spirited debate over the relative merits of selective dividend reinvestment and automated dividend reinvestment.
I have thrown my lot into the DRIP category. I like to see the whole portfolio growing. I don't want to be forced to do the "best value proposition" dance every time my cash balance builds up a bit. I have to make decisions with new contributions anyway.
I'm tempted to just turn away when I see this argument developing in the comment section of articles I read, but it's worth taking a slightly longer look at one versus the other. There are a number of issues that are bandied about in these debates.
First; fees. selective reinvestment incurs brokerage fees. DRIP doesn't.
Second; cash balances. Selective reinvestment causes you to hold cash. DRIP doesn't. As soon as it's distributed, it goes to work.
Third; valuation. Selective reinvestment allows/requires you to choose among holdings to augment, or choose a new stock to purchase. The DRIP program, if applied universally, grows the whole portfolio.
Other things aside, the primary argument made for selective reinvestment is the opportunity to buy the best value at any given point, and choose when to deploy the funds.
What is going on, however, with the DRIPer while the selective re-investor is holding and building cash and making choices on which purchase to make? In a given quarter, a 50 stock portfolio will make 50 purchases of approximately 0.5-0.75% of the position. Not only will any given single stock be somewhere between it's 52 week low and high, but the 50 some-odd purchases made will distribute across the spectrum of relative valuations represented by those 50 holdings. It is unlikely that every holding would be either over-valued or under-valued simultaneously.
Since the general trend of valuations is up, the net effect over time is that DRIP purchases will be below current price. Selective reinvestment purchases will be made in blocks, hopefully at favorable valuation for the identified company at any given point, but the purchases for a given holding will be few and far between.
The DRIP is a form of dollar-cost averaging without brokerage fees. It takes all emotion out of investing 3-4% of the portfolio value every year. I am currently adding about 5% per year to my retirement portfolio, so the DRIP handles about 40% of my investing for me across the spectrum of my holdings.
New contributions must be selectively invested. That means a wish list, a watch list and monitoring of existing holdings for favorable valuation.
I have thrown my lot into the DRIP category. I like to see the whole portfolio growing. I don't want to be forced to do the "best value proposition" dance every time my cash balance builds up a bit. I have to make decisions with new contributions anyway.
I'm tempted to just turn away when I see this argument developing in the comment section of articles I read, but it's worth taking a slightly longer look at one versus the other. There are a number of issues that are bandied about in these debates.
First; fees. selective reinvestment incurs brokerage fees. DRIP doesn't.
Second; cash balances. Selective reinvestment causes you to hold cash. DRIP doesn't. As soon as it's distributed, it goes to work.
Third; valuation. Selective reinvestment allows/requires you to choose among holdings to augment, or choose a new stock to purchase. The DRIP program, if applied universally, grows the whole portfolio.
Other things aside, the primary argument made for selective reinvestment is the opportunity to buy the best value at any given point, and choose when to deploy the funds.
What is going on, however, with the DRIPer while the selective re-investor is holding and building cash and making choices on which purchase to make? In a given quarter, a 50 stock portfolio will make 50 purchases of approximately 0.5-0.75% of the position. Not only will any given single stock be somewhere between it's 52 week low and high, but the 50 some-odd purchases made will distribute across the spectrum of relative valuations represented by those 50 holdings. It is unlikely that every holding would be either over-valued or under-valued simultaneously.
Since the general trend of valuations is up, the net effect over time is that DRIP purchases will be below current price. Selective reinvestment purchases will be made in blocks, hopefully at favorable valuation for the identified company at any given point, but the purchases for a given holding will be few and far between.
The DRIP is a form of dollar-cost averaging without brokerage fees. It takes all emotion out of investing 3-4% of the portfolio value every year. I am currently adding about 5% per year to my retirement portfolio, so the DRIP handles about 40% of my investing for me across the spectrum of my holdings.
New contributions must be selectively invested. That means a wish list, a watch list and monitoring of existing holdings for favorable valuation.
Friday, September 11, 2015
Christmas in September
Boy was I surprised to find a big chunk of new cash in my 401k this week! I'm pretty close to the yearly limit on contributions now, so I'm moving carefully with this cash.
It wasn't hard to top off my VTR position; the price is down, the dividend is great and it's in a sector I really like, etc.
I'm thinking a lot harder about the rest of the cash; lots of the valuations of my holdings are at 5 year lows, but they are all full positions and I'm not overly predisposed to over-weighting positions a lot.
I looked at bumping multiple positions up a bit; not highly efficient of fees, but the idea follows the "portfolio bet" strategy. I would be averaging down in most of these.
I have a strong attraction to BA and CMI; not sure why I am looking at industrials, given the uncertainty of the world economy, but BA is in a duopoly in a world that is craving mobility, and CMI is somewhat industry agnostic, as their engines power applications across the spectrum of industrial and transportation spaces. I'd be putting two more large-cap holdings into a small-cap DGI portfolio, however.
I have also been following the big 5 Canadian banks for some time; could take a look at these...
funny; I'm not that great a shopper; much more comfortable holding and adjusting than I am at picking new stocks.
Patience has not been my strong suit when it comes to cash, so perhaps I'll just practice my patience for a bit.
It wasn't hard to top off my VTR position; the price is down, the dividend is great and it's in a sector I really like, etc.
I'm thinking a lot harder about the rest of the cash; lots of the valuations of my holdings are at 5 year lows, but they are all full positions and I'm not overly predisposed to over-weighting positions a lot.
I looked at bumping multiple positions up a bit; not highly efficient of fees, but the idea follows the "portfolio bet" strategy. I would be averaging down in most of these.
I have a strong attraction to BA and CMI; not sure why I am looking at industrials, given the uncertainty of the world economy, but BA is in a duopoly in a world that is craving mobility, and CMI is somewhat industry agnostic, as their engines power applications across the spectrum of industrial and transportation spaces. I'd be putting two more large-cap holdings into a small-cap DGI portfolio, however.
I have also been following the big 5 Canadian banks for some time; could take a look at these...
funny; I'm not that great a shopper; much more comfortable holding and adjusting than I am at picking new stocks.
Patience has not been my strong suit when it comes to cash, so perhaps I'll just practice my patience for a bit.
Saturday, August 29, 2015
Flash-crash dejavu; should I care?
Something happened at the New York Stock Exchange last Monday. It was a market tantrum borne out of months of speculation about economic instability in the world, potential interest rate policy changes at the Federal Reserve, seemingly tepid economic growth in the USA and who knows what else. I have been watching the value of my retirement portfolio decline over the last 9 months or so, from its peak in December of 2014. It has declined 10%, to be exact. Against that, I have collected dividends of approximately 2%, all of which have been reinvested, suggesting my share count has risen by 2% while the value of those shares has dropped by 10%.
The question is, should I care? No one likes to see their net worth shrink. On the other hand, every company I own continues to pay dividends, generally rising dividends. Cheaper shares mean I purchase a bit more every quarter when dividend-reinvesting time comes around. My brokerage statements suggest my dividend receipts are rising, although I don't keep a separate spreadsheet. One of the hard things about watching that value drop is that I have also invested another 25k or so into the total portfolio at the same time. Is this one of those "times that tries men's souls"? Not quite, I would venture, but it's certainly a time when I am questioning whether I should be DRIPing or collecting cash. Had I collected that 19k in cash dividends from the first of the year, I could deploy it now, at 10% lower cost than I did over the last 6 months. Had I saved that 25k in new contributions, I could also deploy that at lower cost than I did over the last 6 months.
If you only buy when there is "blood on the streets", then there is a lot of time when you aren't buying. That would mean very large cash positions building over time. One would have to have a strategy for cash. In my IRAs, I could be using cash to sell puts and produce more cash. However, the brokerage fees cut at least 10% out of short term put premiums.
The 19k dividends and 25k new contributions add up to 44k investment. Had I invested at 10% lower cost, I'd own $4400 more in stock, or about 0.4% of the portfolio, or probably not enough over which to commit ritual suicide. In this next 6 months, I'll acquire some stock at lower prices and perhaps invest new contributions at lower prices as well, depending on where things move from here.
As it was, I was on my way to work when the flash-crash was occurring and by the time my workday was done, it was over, halfway recovered, and I didn't have cash to deploy anyway. For me, it was an event that wasn't. I sat on my hands, so to speak. There wasn't anything to do, other than to either pay attention or not.
It was a busy week, so I didn't. By week's end, things have further recovered. We'll see what the next week brings. I'm DRIPing at lower prices and no new contributions are flowing into the portfolio at the moment. Another boring week at the retirement portfolio....
The question is, should I care? No one likes to see their net worth shrink. On the other hand, every company I own continues to pay dividends, generally rising dividends. Cheaper shares mean I purchase a bit more every quarter when dividend-reinvesting time comes around. My brokerage statements suggest my dividend receipts are rising, although I don't keep a separate spreadsheet. One of the hard things about watching that value drop is that I have also invested another 25k or so into the total portfolio at the same time. Is this one of those "times that tries men's souls"? Not quite, I would venture, but it's certainly a time when I am questioning whether I should be DRIPing or collecting cash. Had I collected that 19k in cash dividends from the first of the year, I could deploy it now, at 10% lower cost than I did over the last 6 months. Had I saved that 25k in new contributions, I could also deploy that at lower cost than I did over the last 6 months.
If you only buy when there is "blood on the streets", then there is a lot of time when you aren't buying. That would mean very large cash positions building over time. One would have to have a strategy for cash. In my IRAs, I could be using cash to sell puts and produce more cash. However, the brokerage fees cut at least 10% out of short term put premiums.
The 19k dividends and 25k new contributions add up to 44k investment. Had I invested at 10% lower cost, I'd own $4400 more in stock, or about 0.4% of the portfolio, or probably not enough over which to commit ritual suicide. In this next 6 months, I'll acquire some stock at lower prices and perhaps invest new contributions at lower prices as well, depending on where things move from here.
As it was, I was on my way to work when the flash-crash was occurring and by the time my workday was done, it was over, halfway recovered, and I didn't have cash to deploy anyway. For me, it was an event that wasn't. I sat on my hands, so to speak. There wasn't anything to do, other than to either pay attention or not.
It was a busy week, so I didn't. By week's end, things have further recovered. We'll see what the next week brings. I'm DRIPing at lower prices and no new contributions are flowing into the portfolio at the moment. Another boring week at the retirement portfolio....
Monday, August 17, 2015
Another run at the concept
I am in the accumulation phase of my retirement investment portfolio. I would like to retire with adequate dividends and distributions from my retirement accounts to pay expenses. The date I can cover those expenses is my Paycheck Emancipation Date. It may or may not be my actual retirement date, but it represents the earliest time I can voluntarily choose to retire. One way to get a rough fix on that point in time is to know the Dividend Doubling Time of my portfolio.
Various metrics inform the investor of the performance of one's portfolio. You already know most of them, so it doesn't pay to recite them all. Investors in the dividend growth space have eschewed following the value of the portfolio from day to day, as well as the total return. Some of us continue to sneak a peak at those numbers, although our better selves know that anything connected to the price of a stock is subject to the vagaries of the market, rather than strictly related to the business performance of the underlying companies.
By appropriate selection criteria, one can assemble a basket of equities representing companies who have paid dividends faithfully over years, and an even more select collection of companies who have raised dividends reliably over many years. Dividends are unique amongst ALL metrics in that they are ALWAYS positive, even when other performance metrics may vary from year to year. Even a dividend cut still yields a positive dividend, unless that cut is of the most-feared dividend elimination variety. For most investors, a dividend freeze puts the company on probation and a dividend cut results in a prompt sale and re-deployment of assets.
Since most companies that pay dividends tend to maintain and periodically raise them, a portfolio with multiple such companies will regularly experience increases in the composite dividend income.
Each company within the portfolio will contribute variably to that dividend growth according to multiple factors, but the trend should generally be up.
In the accumulation phase of a retirement portfolio, dividends are generally reinvested, either via DRIP, selective reinvestment or both. The compounding effect of dividend reinvestment accelerates dividend growth within the portfolio.
Finally, most investors who are contributing to a retirement portfolio contribute regularly to the account, so additional infusions of cash are invested, producing additional dividends as well.
So, the three components to dividend growth are dividend raises by individual companies, the compounding effect of dividend reinvestment and addition of shares via cash contributions to the account over time.
There will be no single metric that accurately estimates the rate of dividend growth within the portfolio, so one must measure it in real dollars on an ongoing basis, or estimate it by back-of-the napkin methods. Still, it's a very important metric to the dividend investor, as it represents the real cash flow produced by the investments themselves, once cash contributions are converted to equities. All of us hope to produce a sufficient stream of cash that we won't be forced to sell shares to pay the bills.
So, how does that back-of-the napkin estimation of dividend growth work? First, new contributions amount to a percentage in the growth of the share count. I contribute an additional 5% to the corpus of my retirement account every year, so if it is broadly distributed across the equities I own, I know that next year's dividends will grow by roughly 5%, other factors notwithstanding. Second, the composite current yield of my portfolio is between 3-4% and I reinvest all dividends via my brokerage's DRIP program, so I know that next year's dividends will increase by slightly more than that composite yield, due to the compounding effect of either quarterly or monthly dividend reinvestment. That puts me between 8-9% dividend growth per year within the portfolio. To be sure, this is not the pure investment performance of the portfolio, because the majority of the growth is due to new purchases. However, in my real world, it still represents a growth in the cash-producing engine that will be my primary source of income in retirement, so every contribution matters.
Finally, there is a composite rate at which the companies I own increase their dividend payments. This varies quite a bit from company to company, so I don't have a great fix on the actual number, but it is safe to estimate that it adds something short of an additional 1% to the actual growth in cash flow from dividends. After all, if I take my 8-9% more shares every year and add intrinsic dividend growth, I'm pretty sure that adds up to less than 10% intrinsic dividend growth per year in the aggregate.
This rough estimation turns out to be pretty close to the truth, as I look at the brokerage statements from my retirement account. The actual dividends in the whole portfolio are growing at roughly 9-10% and my dividend doubling time looks like it is a bit under 7 years. If I choose Uncle Sam's definition of retirement age for SSI, I have about 12 years to go earning paycheck, so I'm expecting just under two doublings of my dividend income before that date. There are a bunch of reasons I expect I won't continue to draw a wage that long, so I'm taking that into account as I plan my investment contributions.
Getting a rough fix on the nominal dividend growth rate within the portfolio allows one to predict the rate at which the dividend will double, or the Dividend Doubling Time (DDT). For any given equity within the portfolio, the dividend doubling time will vary by the rate at which the company's executive decides to adjust the dividend year by year, as well as decisions to purchase new blocks of stock. This makes calculation of an individual equity DDT fairly useless, except to say that it will be less than the time estimated by simply predicting a doubling of yield on cost of the initial position.
I get lost in the weeds when another writer does a comparison of two companies with different yields and dividend growth rates, projecting the point of dividend parity many years into the future and discussing the merits of the one stock over the other. I am very skeptical that this type of analysis is meaningful, understanding that any number of macroscopic economic factors may intervene and multiple events could occur within a single company that might change it's dividend growth over many years time. I'm much more comfortable with estimating what may occur to my entire portfolio over the next 3-5 years if I continue on the same investment pathway, understanding that I am monitoring and shaping the portfolio with my purchases.
Have you calculated that ACTUAL rate at which the dividend stream in your portfolio is growing? Do you have a rough estimate of the dividend doubling time, or DDT of your retirement portfolio? How does that inform your decisions about the next purchase?
Various metrics inform the investor of the performance of one's portfolio. You already know most of them, so it doesn't pay to recite them all. Investors in the dividend growth space have eschewed following the value of the portfolio from day to day, as well as the total return. Some of us continue to sneak a peak at those numbers, although our better selves know that anything connected to the price of a stock is subject to the vagaries of the market, rather than strictly related to the business performance of the underlying companies.
By appropriate selection criteria, one can assemble a basket of equities representing companies who have paid dividends faithfully over years, and an even more select collection of companies who have raised dividends reliably over many years. Dividends are unique amongst ALL metrics in that they are ALWAYS positive, even when other performance metrics may vary from year to year. Even a dividend cut still yields a positive dividend, unless that cut is of the most-feared dividend elimination variety. For most investors, a dividend freeze puts the company on probation and a dividend cut results in a prompt sale and re-deployment of assets.
Since most companies that pay dividends tend to maintain and periodically raise them, a portfolio with multiple such companies will regularly experience increases in the composite dividend income.
Each company within the portfolio will contribute variably to that dividend growth according to multiple factors, but the trend should generally be up.
In the accumulation phase of a retirement portfolio, dividends are generally reinvested, either via DRIP, selective reinvestment or both. The compounding effect of dividend reinvestment accelerates dividend growth within the portfolio.
Finally, most investors who are contributing to a retirement portfolio contribute regularly to the account, so additional infusions of cash are invested, producing additional dividends as well.
So, the three components to dividend growth are dividend raises by individual companies, the compounding effect of dividend reinvestment and addition of shares via cash contributions to the account over time.
There will be no single metric that accurately estimates the rate of dividend growth within the portfolio, so one must measure it in real dollars on an ongoing basis, or estimate it by back-of-the napkin methods. Still, it's a very important metric to the dividend investor, as it represents the real cash flow produced by the investments themselves, once cash contributions are converted to equities. All of us hope to produce a sufficient stream of cash that we won't be forced to sell shares to pay the bills.
So, how does that back-of-the napkin estimation of dividend growth work? First, new contributions amount to a percentage in the growth of the share count. I contribute an additional 5% to the corpus of my retirement account every year, so if it is broadly distributed across the equities I own, I know that next year's dividends will grow by roughly 5%, other factors notwithstanding. Second, the composite current yield of my portfolio is between 3-4% and I reinvest all dividends via my brokerage's DRIP program, so I know that next year's dividends will increase by slightly more than that composite yield, due to the compounding effect of either quarterly or monthly dividend reinvestment. That puts me between 8-9% dividend growth per year within the portfolio. To be sure, this is not the pure investment performance of the portfolio, because the majority of the growth is due to new purchases. However, in my real world, it still represents a growth in the cash-producing engine that will be my primary source of income in retirement, so every contribution matters.
Finally, there is a composite rate at which the companies I own increase their dividend payments. This varies quite a bit from company to company, so I don't have a great fix on the actual number, but it is safe to estimate that it adds something short of an additional 1% to the actual growth in cash flow from dividends. After all, if I take my 8-9% more shares every year and add intrinsic dividend growth, I'm pretty sure that adds up to less than 10% intrinsic dividend growth per year in the aggregate.
This rough estimation turns out to be pretty close to the truth, as I look at the brokerage statements from my retirement account. The actual dividends in the whole portfolio are growing at roughly 9-10% and my dividend doubling time looks like it is a bit under 7 years. If I choose Uncle Sam's definition of retirement age for SSI, I have about 12 years to go earning paycheck, so I'm expecting just under two doublings of my dividend income before that date. There are a bunch of reasons I expect I won't continue to draw a wage that long, so I'm taking that into account as I plan my investment contributions.
Getting a rough fix on the nominal dividend growth rate within the portfolio allows one to predict the rate at which the dividend will double, or the Dividend Doubling Time (DDT). For any given equity within the portfolio, the dividend doubling time will vary by the rate at which the company's executive decides to adjust the dividend year by year, as well as decisions to purchase new blocks of stock. This makes calculation of an individual equity DDT fairly useless, except to say that it will be less than the time estimated by simply predicting a doubling of yield on cost of the initial position.
I get lost in the weeds when another writer does a comparison of two companies with different yields and dividend growth rates, projecting the point of dividend parity many years into the future and discussing the merits of the one stock over the other. I am very skeptical that this type of analysis is meaningful, understanding that any number of macroscopic economic factors may intervene and multiple events could occur within a single company that might change it's dividend growth over many years time. I'm much more comfortable with estimating what may occur to my entire portfolio over the next 3-5 years if I continue on the same investment pathway, understanding that I am monitoring and shaping the portfolio with my purchases.
Have you calculated that ACTUAL rate at which the dividend stream in your portfolio is growing? Do you have a rough estimate of the dividend doubling time, or DDT of your retirement portfolio? How does that inform your decisions about the next purchase?
Sunday, August 9, 2015
Is DDT a DUD?
So, off I went on the little voyage of discovery, calculating dividend doubling times for a few of my holdings.
Now, it's not simply a doubling of the dollar value of a year's dividends that interests me. You can look that up in a decent brokerage webpage or elsewhere. I'm interested in the time it takes for my actual dividend payments per year to double, taking into account the incremental increase in dividends paid as well as the effects of dividend reinvestment on the cash flow within the position year by year.
As usual, I did this in a "quick and dirty" fashion by looking at actual dividends paid, quarter by quarter, for companies I have held over several years. It turns out, I have made incremental investments in most of them, so I do not have a position that has been intact long enough to double purely on the basis of dividend increases and dividend reinvestment. One can calculate a rate of dividend growth from one year to the next, however, and it's interesting to note that most of my holdings have dividend growth rates of between 7-12%. This is achieved by dividing the dividend received in a given quarter from one year into the dividend received in the prior year. A number a bit greater than one appears, from which you subtract the number 1 and multiply the result by 100 and you have the rate of growth in percent. Using the rule of 72, you can divide 72 by the number you get and the doubling time will appear. My dividend doubling times range from 5-10 years for most stocks, less for a couple. The dividend doubling time, averaged across the portfolio would be a great number to have, as it predicts the time at which I might possibly receive adequate dividends to replace the income I earn with my labor.
Just as the dividend growth rate varies from year to year, the dividend doubling time varies as well.
It's important to realize however, that the published rate of dividend growth under-estimates the dividend doubling time if you are a DRIPer, because your stock count is growing at the rate of the current yield in addition to dividend increases programmed by company management.
A high dividend company like T will experience a dividend doubling of 14.4 years on a static dividend. You don't have to raise the dividend by much to reduce the doubling time to under 10 years, due to the dominant effect of a dividend reinvestment of 5% every year.
Finally, you can't ignore the "new money effect" of additional contributions to the portfolio. That isn't investment performance in it's purest sense, but since I am the investor, the rate at which I save is a piece of my portfolio growth performance. I have been adding to my retirement portfolio at the highest rate allowed by the law and will continue to do so until I stop earning a paycheck. That currently is adding about 5% per year to my nest-egg. If you treat the new money like additional dividends, adding the current portfolio dividend yield to the new addition, gives a dividend rate of approximately 8%, which in itself produces a dividend doubling time of 9 years.
When I look at the actual dollar figures, new money plus dividends is adding 9.5% cash to the portfolio every year, and the dividend is rising by 10% per year. That results in a dividend doubling time of 7 years.
I don't think DDT is a DUD. It tells me about where I'll be in 7 years with respect to cash flow derived from my retirement portfolio.
Now, it's not simply a doubling of the dollar value of a year's dividends that interests me. You can look that up in a decent brokerage webpage or elsewhere. I'm interested in the time it takes for my actual dividend payments per year to double, taking into account the incremental increase in dividends paid as well as the effects of dividend reinvestment on the cash flow within the position year by year.
As usual, I did this in a "quick and dirty" fashion by looking at actual dividends paid, quarter by quarter, for companies I have held over several years. It turns out, I have made incremental investments in most of them, so I do not have a position that has been intact long enough to double purely on the basis of dividend increases and dividend reinvestment. One can calculate a rate of dividend growth from one year to the next, however, and it's interesting to note that most of my holdings have dividend growth rates of between 7-12%. This is achieved by dividing the dividend received in a given quarter from one year into the dividend received in the prior year. A number a bit greater than one appears, from which you subtract the number 1 and multiply the result by 100 and you have the rate of growth in percent. Using the rule of 72, you can divide 72 by the number you get and the doubling time will appear. My dividend doubling times range from 5-10 years for most stocks, less for a couple. The dividend doubling time, averaged across the portfolio would be a great number to have, as it predicts the time at which I might possibly receive adequate dividends to replace the income I earn with my labor.
Just as the dividend growth rate varies from year to year, the dividend doubling time varies as well.
It's important to realize however, that the published rate of dividend growth under-estimates the dividend doubling time if you are a DRIPer, because your stock count is growing at the rate of the current yield in addition to dividend increases programmed by company management.
A high dividend company like T will experience a dividend doubling of 14.4 years on a static dividend. You don't have to raise the dividend by much to reduce the doubling time to under 10 years, due to the dominant effect of a dividend reinvestment of 5% every year.
Finally, you can't ignore the "new money effect" of additional contributions to the portfolio. That isn't investment performance in it's purest sense, but since I am the investor, the rate at which I save is a piece of my portfolio growth performance. I have been adding to my retirement portfolio at the highest rate allowed by the law and will continue to do so until I stop earning a paycheck. That currently is adding about 5% per year to my nest-egg. If you treat the new money like additional dividends, adding the current portfolio dividend yield to the new addition, gives a dividend rate of approximately 8%, which in itself produces a dividend doubling time of 9 years.
When I look at the actual dollar figures, new money plus dividends is adding 9.5% cash to the portfolio every year, and the dividend is rising by 10% per year. That results in a dividend doubling time of 7 years.
I don't think DDT is a DUD. It tells me about where I'll be in 7 years with respect to cash flow derived from my retirement portfolio.
Sunday, August 2, 2015
Eureka, I've found my own personal investment performance benchmark!
Tonight, I was reading one of my favorite authors on Seeking Alpha commenting on another author's article about the relative contribution of dividends to investment performance over time. He made the point that if you reinvest dividends, over time an increasing amount of total return is attributed to the dividend-derived portion of your position. That assumes, of course, that you purchase an original position and then tabulate the portion of your total return that comes purely from the capital gains attached to your original purchase, and attribute all additional returns (capital gains and dividends) from stocks purchased with dividends to the dividend-derived return.
Interestingly, since the goal of the dividend-growth investor is a rising stream of dividends, an interesting benchmark is the dividend-doubling time, or DDT as I have named it. After all, if one wants to live on dividends and distributions alone in retirement, the faster one gets to replacing one's earned wages with dividends and distributions, the sooner one can ditch one's work clothes for a bathrobe early every morning.
The rule of 72 defines how quickly a pot of money doubles if it earns compounded interest.
7% per year takes 10 years to double. 10% per year takes 7 years to double.
What rule describes the doubling time of dividends? First, one has to set out some requirements for the rule. One rule applies if one takes the dividends as cash. Another rule applies of one is reinvesting the dividends. Applied to a single stock, one must use a DRIP to determine the DDT for that stock.
Within a portfolio, the DDT could be achieved DRIPing every stock, or collecting dividends and reinvesting selectively.
For the sake of simplicity, I will assume the rule applies to a single stock in a DRIP program.
Simply stated, whatever the cash yield of a holding at the time you establish your position, the point at which you are collecting 2x that amount of cash, you have your Dividend doubling time. That time is closely related to a concept called yield-on-cost. If your starting yield is 3% and your yield on cost is 6%, then your dividend stream should have exactly doubled in that interval.
We all know that yields don't double as a company adjusts it's dividends over time. When earnings rise, stock price generally rises as well. When a discrete dividend increase occurs, it has an effect on stock price as well. Since using a DRIP requires that you purchase incremental shares at whatever price prevails at the time the dividend is paid, the incremental purchases have differing claims on future earnings and dividends. If one presumes a constant yield, i.e. the company raises dividends exactly in proportion to rising earnings, and the market re-prices the stock precisely in proportion to rising earnings, then one can relatively easily calculate the point at which the actual cash dividend payment doubles. However, we have this phenomenon of margin expansion and contraction that undulates somewhat unpredictably over time, so a formula will only approximate the real-life DDT of a given stock at any time in history.
Still; the concept is important because real money is what we use to pay our bills; Currently, the cash yield of all my stock holdings is roughly enough to pay the mortgage on my home. If I want to retire on dividends and distributions alone, I need to reach a point where those dividends cover all my expenses, after taxes. I'll need about 4-fold more dividends, or two doubling times. How long will that be? The simplistic view is to assume that my current yield will stay about the same, so I'll need to quadruple the value of my portfolio in order to retire. I think that won't actually be the case. I think that the combination of dividend growth, as well as the compounding effect of dividend re-investment will get me there faster than a simple compounding calculator would predict. However, since rising stock price will dampen the effect of the DRIP in regards to the rate of increase in share count one might expect from the DRIP, the calculation must take that into account. That means that things like share-repurchases, which drive earnings per share and share price may also have to be considered in the equation. Rising earnings per share drives rising dividends per share, as long as the payout ratio remains constant. It may not be constant, however. That is a decision made in the board room, not by some formula. Formulas will never do more than approximate reality, so watching the actual cash numbers makes more practical sense than relying on formulas.
Now I'm off to figure out the dividend doubling time of a few of my holdings! I'll be reporting back soon....
Interestingly, since the goal of the dividend-growth investor is a rising stream of dividends, an interesting benchmark is the dividend-doubling time, or DDT as I have named it. After all, if one wants to live on dividends and distributions alone in retirement, the faster one gets to replacing one's earned wages with dividends and distributions, the sooner one can ditch one's work clothes for a bathrobe early every morning.
The rule of 72 defines how quickly a pot of money doubles if it earns compounded interest.
7% per year takes 10 years to double. 10% per year takes 7 years to double.
What rule describes the doubling time of dividends? First, one has to set out some requirements for the rule. One rule applies if one takes the dividends as cash. Another rule applies of one is reinvesting the dividends. Applied to a single stock, one must use a DRIP to determine the DDT for that stock.
Within a portfolio, the DDT could be achieved DRIPing every stock, or collecting dividends and reinvesting selectively.
For the sake of simplicity, I will assume the rule applies to a single stock in a DRIP program.
Simply stated, whatever the cash yield of a holding at the time you establish your position, the point at which you are collecting 2x that amount of cash, you have your Dividend doubling time. That time is closely related to a concept called yield-on-cost. If your starting yield is 3% and your yield on cost is 6%, then your dividend stream should have exactly doubled in that interval.
We all know that yields don't double as a company adjusts it's dividends over time. When earnings rise, stock price generally rises as well. When a discrete dividend increase occurs, it has an effect on stock price as well. Since using a DRIP requires that you purchase incremental shares at whatever price prevails at the time the dividend is paid, the incremental purchases have differing claims on future earnings and dividends. If one presumes a constant yield, i.e. the company raises dividends exactly in proportion to rising earnings, and the market re-prices the stock precisely in proportion to rising earnings, then one can relatively easily calculate the point at which the actual cash dividend payment doubles. However, we have this phenomenon of margin expansion and contraction that undulates somewhat unpredictably over time, so a formula will only approximate the real-life DDT of a given stock at any time in history.
Still; the concept is important because real money is what we use to pay our bills; Currently, the cash yield of all my stock holdings is roughly enough to pay the mortgage on my home. If I want to retire on dividends and distributions alone, I need to reach a point where those dividends cover all my expenses, after taxes. I'll need about 4-fold more dividends, or two doubling times. How long will that be? The simplistic view is to assume that my current yield will stay about the same, so I'll need to quadruple the value of my portfolio in order to retire. I think that won't actually be the case. I think that the combination of dividend growth, as well as the compounding effect of dividend re-investment will get me there faster than a simple compounding calculator would predict. However, since rising stock price will dampen the effect of the DRIP in regards to the rate of increase in share count one might expect from the DRIP, the calculation must take that into account. That means that things like share-repurchases, which drive earnings per share and share price may also have to be considered in the equation. Rising earnings per share drives rising dividends per share, as long as the payout ratio remains constant. It may not be constant, however. That is a decision made in the board room, not by some formula. Formulas will never do more than approximate reality, so watching the actual cash numbers makes more practical sense than relying on formulas.
Now I'm off to figure out the dividend doubling time of a few of my holdings! I'll be reporting back soon....
Sunday, July 26, 2015
Have I learned anything new lately?
My personal journey that has been documented in these postings was and is about tabulating what I am learning about managing my own retirement investment portfolio. I look back and see that I have learned a lot, perhaps more than I can objectively identify.
Most of it has been learned from other investors who either write or comment on the Seeking Alpha website. Some of it has been learned from newletter editors, but not nearly as much as in the dialogue with other independent investors.
In an attempt to hone my own strategy, I have been asking others "what's next" in their strategy.
One of the fundamental additions I have made is keeping track of credit ratings on the companies I own.
my FASTGraphs program follows the S&P reported credit ratings. I can simply add that to the fields I use for analysis and I see the credit rating. A few of the companies I own are BBB-; I'm not inclined to sell them purely on that basis, but I was gratified when I first checked to see that nearly all of my holdings are BBB or better, with plenty of A's in there. Without specifically checking, I have collected a sizable portfolio of companies with investment grade debt ratings. That's an endorsement by credit rating agencies on their ability to service their debt; a surrogate for the safety of future earnings, and indirectly for the safety of the dividends. Debt coverage ratio is one piece, security of earnings is another.
I didn't find much to prune in my most recent review, so I'm waiting for new money to enter the portfolio. I will consider credit rating as a primary criteria for adding any new issue to my holdings.
Most of it has been learned from other investors who either write or comment on the Seeking Alpha website. Some of it has been learned from newletter editors, but not nearly as much as in the dialogue with other independent investors.
In an attempt to hone my own strategy, I have been asking others "what's next" in their strategy.
One of the fundamental additions I have made is keeping track of credit ratings on the companies I own.
my FASTGraphs program follows the S&P reported credit ratings. I can simply add that to the fields I use for analysis and I see the credit rating. A few of the companies I own are BBB-; I'm not inclined to sell them purely on that basis, but I was gratified when I first checked to see that nearly all of my holdings are BBB or better, with plenty of A's in there. Without specifically checking, I have collected a sizable portfolio of companies with investment grade debt ratings. That's an endorsement by credit rating agencies on their ability to service their debt; a surrogate for the safety of future earnings, and indirectly for the safety of the dividends. Debt coverage ratio is one piece, security of earnings is another.
I didn't find much to prune in my most recent review, so I'm waiting for new money to enter the portfolio. I will consider credit rating as a primary criteria for adding any new issue to my holdings.
Tuesday, July 21, 2015
Would I, could I, predict dividend growth?
I was working on a contribution to another guy's idea; it involves picking stocks likely to clock high dividend growth.
Here's the catch; I'd to choose from stocks that already have at least a 3% dividend yield. Oh, and I'd also have to choose some stocks that will have the highest 5 year average dividend growth in 2020.
So, I started thinking about how to put a fence around that task.
First thing is easy; find equities that have a 3% dividend yield. I decided to limit it to common stocks and ownership units that pay distributions. No funds, no preferreds, no ETFs, ETNs, etc. I also decided they should trade on US or Canadian exchanges. It turns out there are about 17,000 names to sort to start with, and the criteria above bring it down to 2900 some-odd options.
Predicting dividend growth is about the future, but the only data we have is present and past. Now, analysts spend a lot of time attempting to predict earnings growth. They set expectations and companies either meet them or don't meet them. I don't understand much of what they do and how they do it. I'm left with my own experience and common sense to puzzle through this assignment.
First; any company that already pays a 3% dividend yield has a significant commitment to dividend policy. Companies in the rapid growth mode usually retain all earnings in order to reinvest in the business. As business value rises, stock price rises and executives get rich. The company can raise money by selling more stock, or by borrowing, but the cleanest way to grow is to retain earnings.
I think a young, growing company will rarely initiate a dividend, much less raise a dividend significantly if it has to borrow to fund growth. Once a company has a history of paying dividends and owners expect to be paid, freezing or cutting a dividend has an immediate and negative effect on stock price, so executives are loathe to provoke the market in such a way. It can hurt the executive directly, if he or she has stock options that vest at a certain price. There's another target for excess earnings; stock repurchases. In fact, the combination of stock repurchases and dividends is often called shareholder yield, as if the stock price puts money in the pocket of the owner. In fact, it does drive up earnings/share, and that may drive stock price, but it deprives the owner of determining how his/her personal stake in the company's capital is allocated, so I don't see stock repurchases as equivalent to dividends. Since I routinely reinvest dividends within a tax-protected environment, they are essentially equivalent, but I still claim the right to make that decision, rather than have the management make it for me.
The 3%+ dividend payer is either a mature company that takes a more measured approach to growth, doesn't see adequate opportunity to allocate capital to growth, or is simply producing such a prodigious amount of cash that it can afford to pay that dividend and still have lots of cash to invest in growth. Some companies pay routinely high dividends; they have invested what they need in infrastructure, produce substantial cash flow, but have limits on their ability to grow; They will pay a high dividend but won't raise the dividend significantly.
So, in order to find a 3+% dividend payer that is also growing the dividend significantly, it has to either be in that enviable place where the is a ton of cash flow, it is growing rapidly and can afford to pay a significant dividend that is still only a fraction of the cash it produces each year. If the cash is growing rapidly, so can the dividend.
One can also see significant dividend growth off a 3% base if the company is in transition from rapid growth to slower growth, but produces significant excess cash flow. It has targeted a significantly higher payout ratio than current and is incrementally marching towards that higher payout ratio that will then track in parallel to it's terminal rate of growth.
So, my task is to identify 5 companies that have 3%+ dividends and will raise them the most in 2016.
Also, I am tasked to identify 5 companies that will have the highest 5 year dividend growth rate in 2020 off of that 3% base.
Let's get some things straight from the outset: Price only matters now. Price matters now because it defines the dividend yield. There are some companies that I can't consider because their recent price action has driven their dividend yield below 3%. If their dividend is hiked later or their price drops later, too bad; they can only be considered based on their current dividend yield. Second; dividend growth is not the same as a rising yield. A rising yield means that the price is not keeping up with the dividend, or the price is dropping, or the company is hiking the dividend disproportionately to rising price. Dividend policy essentially never follows price, if I could venture a guess. It is much more likely to follow earnings, unless the company has come incentive to continue hiking the dividend in a stagnant earnings growth environment. That would be reflected in a rising payout ratio.
The company that is growing earnings rapidly, raising the dividend proportionally and experiencing capital appreciation to match earnings and dividend growth will have a very steady yield.
Where am I going to look to find companies that have significant growth in earnings, significant increase in dividends, starting from a 3% dividend yield?
First: I can see what the analysts are predicting.
Second, I can look to the past, see how these parameters have been trending, make an educated guess about whether business conditions are getting better or worse, and try to predict the dividend behavior based on that analysis. It's also good to remember that we're talking about dividends/share. A company spending a bunch on share repurchases can drive dividends per share by reducing share count. That could be another clue to a company that can raise dividends per share, even if earnings growth is blunted.
I took two approaches;
The first was to examine my own portfolio, which is chock full of companies paying 3% dividends with which I am already familiar.
The second was to use the screening tool in F.A.S.T. Graphs. That required that I define the screening parameters I would use to narrow my choices from 17k to 3k, down to about 50 companies.
I'm not likely to be able to discern the dividend growth prospects of a company that is paying a dividend for the first time in history. The history of dividend payments and changes in those payments lends confidence to the observer in predicting how things might look next year and in 5 years. If the company has a long track record of behaving one way or another, that lends a degree of reliability in predicting they will continue to behave that way in the future. One can't know how a company will respond to a recession, unless you look back to how they responded in the last recession. Limiting the search to companies who grew earnings and dividends in the last recession would be a reasonable screening tool. Since the last recession hit in 2008, and the one before that in 2002, one would need a 10 year history to catch the major recession and a 15 year history to catch two recessions.
Looking forward, one has to ask what industries are likely to grow earnings at an accelerated rate, remain central in consumer demand and have room under the earnings tent to push the dividend?
One sector where my crystal ball is REALLY fuzzy is tech. It's easy to look back and see who has survived the wars in Tech, but far more difficult to look forward and ask who will still be performing in 5 years. I don't invest in those companies that depend on being at the front of the Zeitgeist in personal tech appliances, so I'm not likely to choose one of them for my list of darlings.
What about market cap? In general smaller companies grow faster than large ones. That means growing revenues, hopefully also earnings. One won't pay a dividend without becoming profitable, or having positive earnings. One won't pay a rising dividend without positive and rising earnings. Is there likely to a 3%+ dividend candidate amongst smaller companies? If you include REITS and MLPs and you consider companies less than 5Billion in revenue to be small, absolutely.
My real problem with this assignment is that I'm not motivated to find 5 companies paying more than 3% dividends who will grow dividends the fastest and have the highest 5 year dividend growth rate 5 years from now. I want companies that are most likely to grow steadily, without volatility, and least likely to have a melt-down. My view of performance is more about predictability, protection of capital, credit quality, conservative and prudent management than it is about rates of growth. My target total return is around 10% per annum. Sure, I'll take more, but I'm not willing to bet the farm on flyers. I also hold 50+ equities, so I will be bouyed and anchored by averages.
It turns out I understand the tools to do the screening, but have no stomach for guessing which companies that screen well are likely to perform best. Furthermore, I may not be inclined to buy them for reasons stated above, so I'm not highly motivated to rank them at the top. So, as I probe the depths of my soul, I'm not the right guy for the assignment.
The challenge was not entirely lost on me, however. It got me to thinking about looking forward with the stocks I own. Surely, amongst the 50 issues I already own, I can stratify for those most likely to out-perform in the next 3-5 years and then think about why I'm holding the laggards. Maybe I could trim that list to 30, or even 25 companies...hmmm...
Here's the catch; I'd to choose from stocks that already have at least a 3% dividend yield. Oh, and I'd also have to choose some stocks that will have the highest 5 year average dividend growth in 2020.
So, I started thinking about how to put a fence around that task.
First thing is easy; find equities that have a 3% dividend yield. I decided to limit it to common stocks and ownership units that pay distributions. No funds, no preferreds, no ETFs, ETNs, etc. I also decided they should trade on US or Canadian exchanges. It turns out there are about 17,000 names to sort to start with, and the criteria above bring it down to 2900 some-odd options.
Predicting dividend growth is about the future, but the only data we have is present and past. Now, analysts spend a lot of time attempting to predict earnings growth. They set expectations and companies either meet them or don't meet them. I don't understand much of what they do and how they do it. I'm left with my own experience and common sense to puzzle through this assignment.
First; any company that already pays a 3% dividend yield has a significant commitment to dividend policy. Companies in the rapid growth mode usually retain all earnings in order to reinvest in the business. As business value rises, stock price rises and executives get rich. The company can raise money by selling more stock, or by borrowing, but the cleanest way to grow is to retain earnings.
I think a young, growing company will rarely initiate a dividend, much less raise a dividend significantly if it has to borrow to fund growth. Once a company has a history of paying dividends and owners expect to be paid, freezing or cutting a dividend has an immediate and negative effect on stock price, so executives are loathe to provoke the market in such a way. It can hurt the executive directly, if he or she has stock options that vest at a certain price. There's another target for excess earnings; stock repurchases. In fact, the combination of stock repurchases and dividends is often called shareholder yield, as if the stock price puts money in the pocket of the owner. In fact, it does drive up earnings/share, and that may drive stock price, but it deprives the owner of determining how his/her personal stake in the company's capital is allocated, so I don't see stock repurchases as equivalent to dividends. Since I routinely reinvest dividends within a tax-protected environment, they are essentially equivalent, but I still claim the right to make that decision, rather than have the management make it for me.
The 3%+ dividend payer is either a mature company that takes a more measured approach to growth, doesn't see adequate opportunity to allocate capital to growth, or is simply producing such a prodigious amount of cash that it can afford to pay that dividend and still have lots of cash to invest in growth. Some companies pay routinely high dividends; they have invested what they need in infrastructure, produce substantial cash flow, but have limits on their ability to grow; They will pay a high dividend but won't raise the dividend significantly.
So, in order to find a 3+% dividend payer that is also growing the dividend significantly, it has to either be in that enviable place where the is a ton of cash flow, it is growing rapidly and can afford to pay a significant dividend that is still only a fraction of the cash it produces each year. If the cash is growing rapidly, so can the dividend.
One can also see significant dividend growth off a 3% base if the company is in transition from rapid growth to slower growth, but produces significant excess cash flow. It has targeted a significantly higher payout ratio than current and is incrementally marching towards that higher payout ratio that will then track in parallel to it's terminal rate of growth.
So, my task is to identify 5 companies that have 3%+ dividends and will raise them the most in 2016.
Also, I am tasked to identify 5 companies that will have the highest 5 year dividend growth rate in 2020 off of that 3% base.
Let's get some things straight from the outset: Price only matters now. Price matters now because it defines the dividend yield. There are some companies that I can't consider because their recent price action has driven their dividend yield below 3%. If their dividend is hiked later or their price drops later, too bad; they can only be considered based on their current dividend yield. Second; dividend growth is not the same as a rising yield. A rising yield means that the price is not keeping up with the dividend, or the price is dropping, or the company is hiking the dividend disproportionately to rising price. Dividend policy essentially never follows price, if I could venture a guess. It is much more likely to follow earnings, unless the company has come incentive to continue hiking the dividend in a stagnant earnings growth environment. That would be reflected in a rising payout ratio.
The company that is growing earnings rapidly, raising the dividend proportionally and experiencing capital appreciation to match earnings and dividend growth will have a very steady yield.
Where am I going to look to find companies that have significant growth in earnings, significant increase in dividends, starting from a 3% dividend yield?
First: I can see what the analysts are predicting.
Second, I can look to the past, see how these parameters have been trending, make an educated guess about whether business conditions are getting better or worse, and try to predict the dividend behavior based on that analysis. It's also good to remember that we're talking about dividends/share. A company spending a bunch on share repurchases can drive dividends per share by reducing share count. That could be another clue to a company that can raise dividends per share, even if earnings growth is blunted.
I took two approaches;
The first was to examine my own portfolio, which is chock full of companies paying 3% dividends with which I am already familiar.
The second was to use the screening tool in F.A.S.T. Graphs. That required that I define the screening parameters I would use to narrow my choices from 17k to 3k, down to about 50 companies.
I'm not likely to be able to discern the dividend growth prospects of a company that is paying a dividend for the first time in history. The history of dividend payments and changes in those payments lends confidence to the observer in predicting how things might look next year and in 5 years. If the company has a long track record of behaving one way or another, that lends a degree of reliability in predicting they will continue to behave that way in the future. One can't know how a company will respond to a recession, unless you look back to how they responded in the last recession. Limiting the search to companies who grew earnings and dividends in the last recession would be a reasonable screening tool. Since the last recession hit in 2008, and the one before that in 2002, one would need a 10 year history to catch the major recession and a 15 year history to catch two recessions.
Looking forward, one has to ask what industries are likely to grow earnings at an accelerated rate, remain central in consumer demand and have room under the earnings tent to push the dividend?
One sector where my crystal ball is REALLY fuzzy is tech. It's easy to look back and see who has survived the wars in Tech, but far more difficult to look forward and ask who will still be performing in 5 years. I don't invest in those companies that depend on being at the front of the Zeitgeist in personal tech appliances, so I'm not likely to choose one of them for my list of darlings.
What about market cap? In general smaller companies grow faster than large ones. That means growing revenues, hopefully also earnings. One won't pay a dividend without becoming profitable, or having positive earnings. One won't pay a rising dividend without positive and rising earnings. Is there likely to a 3%+ dividend candidate amongst smaller companies? If you include REITS and MLPs and you consider companies less than 5Billion in revenue to be small, absolutely.
My real problem with this assignment is that I'm not motivated to find 5 companies paying more than 3% dividends who will grow dividends the fastest and have the highest 5 year dividend growth rate 5 years from now. I want companies that are most likely to grow steadily, without volatility, and least likely to have a melt-down. My view of performance is more about predictability, protection of capital, credit quality, conservative and prudent management than it is about rates of growth. My target total return is around 10% per annum. Sure, I'll take more, but I'm not willing to bet the farm on flyers. I also hold 50+ equities, so I will be bouyed and anchored by averages.
It turns out I understand the tools to do the screening, but have no stomach for guessing which companies that screen well are likely to perform best. Furthermore, I may not be inclined to buy them for reasons stated above, so I'm not highly motivated to rank them at the top. So, as I probe the depths of my soul, I'm not the right guy for the assignment.
The challenge was not entirely lost on me, however. It got me to thinking about looking forward with the stocks I own. Surely, amongst the 50 issues I already own, I can stratify for those most likely to out-perform in the next 3-5 years and then think about why I'm holding the laggards. Maybe I could trim that list to 30, or even 25 companies...hmmm...
Saturday, May 9, 2015
A little help from my friends
If you're my age or older, you should know the lyrics;
I get by with a little help from my friends,
I get high with a little help from my friends,
Gonna try with a little help from my friends...
I like reading the dividends and income section of Seeking Alpha. I've been reading it for some years now. I haven't written much, but I comment enough; several hundred comments, in fact.
Mostly I try to add some insight, ask a question or lend my perspective on a topic.
Like others, I scan the comments for folks whose opinions I trust. I have a top-20. Some of them have paid-services that they offer elsewhere. I don't mind that; one can choose to sample the paid stuff or not.
I've been thinking about who I like, what I have learned from them, how I have borrowed concepts and fit them into my personal investing philosophy;
Lets see if I can create a list of some of those;
1) Capital gains don't compound.
That was a comment to an article a ways back. I like that concept. In order to benefit from compounding, you need to get paid, then reinvest. Some folks say that retained earnings compound internally. That's true sometimes. Sometimes retained earnings are used to buy new businesses that aren't as profitable as the original business. Sometimes they are used to buy back stock at a sizable premium to intrinsic value. Sometimes those repurchased stocks are re-issued to the corporate management as incentive pay. I'd prefer to collect the cash and choose how I wish to reinvest.
2) Never Sell; that's just one guy's opinion, but I like the concept. What it demands is that you pay particular attention to the decision of what and when to buy. If you want to "rebalance", you need to do so by adding new money. You can add new money from your wages or you can collect dividends and selectively reinvest.
3) Let your fast horses run. That's paraphrasing a rule from another guy I respect; don't sell your winners. He throws out the re-balancing idea, although he may be quietly buying more of his slower horses...
4) Reinvest. Again, capital gains don't compound. If you collect 3% in dividends and reinvest them, next year's dividends will be 3% higher, even if the company does NOTHING to raise the dividend per share. I mostly buy companies that raise their dividends, so it's usually more than that. The share count goes up by a percentage, the dividend goes up by a percentage, the dividend per share goes up by a percentage and the cumulative effect is significant rates of compounding in the position; both value and cash flow.
5) Valuation Matters. Where it matters is at the point of purchase. Buying high may not have a huge effect over a long holding period if the trajectory is steadily up, but there is never a time that it's mandatory to buy a given stock. There are almost always individual bargains to be had. If you combine valuation discipline at the point of purchase, a forever holding period and reinvestment, you have a cash producing engine that gains momentum steadily over time. You set it in motion and years later it will support you in your old age!
6) Monitor. How can you spot a company that is experiencing fundamental deterioration in it's business model, execution or some other fatal flaw; It starts with declining rate of earnings growth. It may be signaled by rising debt. The dividend payout ratio may be climbing. If the dividend growth rate is declining, one should start paying more attention. Some authors call it "the bench".
7) Have a plan. Write it down. Stick to it. That came from a retired law inforcement officer; He migrated to self management of individual equities a short couple of years ago. He has incredible discipline, way more than I do. But, as a result of his work, I do have a plan in my head, and I check my holdings pretty frequently against some of the parameters outlined by him and others.
Now, a few of my own contributions to the mix;
8) Take advantage of the DRIP. I'm making a portfolio bet rather than an individual stock bet. I want every position to compound. I don't know which one is going to race forward the most in the next interval, so I don't spend that much time trying to choose between them. I reserve the most effort in establishing my watch list, figuring out buy points, allocating new money when it arrives, learning to know the details of the companies I already own and what they are doing to grow their businesses.
9) Shovel as much money at the retirement plan as possible. First, that requires financial discipline. It means maximizing contributions to the company qualified plan. It means hit a savings target of total income; I use 20% of gross. I wish I had chosen a higher number before I let other obligations take a higher priority.
10) Insure against all the big risks; that means life, disability, house and property, casualty. Buy the disability riders so the protection stays in place if the income goes away.
11) Refocus on growth in cash flow (That means dividends and distributions). I work hard to keep that in focus, since it's easiest to see account balances and they go up and down all the time. It takes a bit more effort to see the increase in cash flow into the portfolio, but it almost always takes away the desire to sell a position whose stock price may be languishing a bit.
12) Eliminate debt. Damn, that's hard. Debt is poison when times get hard. Leverage can take you to insolvency if you don't keep it under control. Best to eliminate it altogether if possible.
13) Invest in stuff that people need in good times and bad. That means utilities, energy, consumer staples, real estate. That doesn't mean I don't own other sectors; it means I have a definite defensive bent to the mix however. In those sectors that don't represent the necessities of life, I still demand that my companies pay me now (that means distributions/dividends). I have the foundation pretty much built, but I keep scanning for additional holdings within those defensive sectors that might improve the quality or insulate against the risk of an individual company melt-down.
14) Diversify. The magic number is 50. I can track 50 holdings, more or less. That means a complete meltdown only costs me 2%. I have seen only seen a couple of 100% meltdowns in the 20 years I have been investing.
15) No earnings, no dividends, no investment. One exception; WB, the Oracle himself. BRK has tons of earnings, but all dividends go to the chairman and he decides how to spend them.
16) Keep the Peter Lynch rule in mind. It's also one of WB's rules.
17) I need to fold this one into the plan; credit quality; I need to start looking at the credit rating of my companies and trying to improve the credit quality of the portfolio.
There may be a few more; I'll think about it, but that's a decent summation of the result of a few thousand hours of reading, study, thinking, learning about being the manager of my own retirement portfolio.
I get by with a little help from my friends,
I get high with a little help from my friends,
Gonna try with a little help from my friends...
I like reading the dividends and income section of Seeking Alpha. I've been reading it for some years now. I haven't written much, but I comment enough; several hundred comments, in fact.
Mostly I try to add some insight, ask a question or lend my perspective on a topic.
Like others, I scan the comments for folks whose opinions I trust. I have a top-20. Some of them have paid-services that they offer elsewhere. I don't mind that; one can choose to sample the paid stuff or not.
I've been thinking about who I like, what I have learned from them, how I have borrowed concepts and fit them into my personal investing philosophy;
Lets see if I can create a list of some of those;
1) Capital gains don't compound.
That was a comment to an article a ways back. I like that concept. In order to benefit from compounding, you need to get paid, then reinvest. Some folks say that retained earnings compound internally. That's true sometimes. Sometimes retained earnings are used to buy new businesses that aren't as profitable as the original business. Sometimes they are used to buy back stock at a sizable premium to intrinsic value. Sometimes those repurchased stocks are re-issued to the corporate management as incentive pay. I'd prefer to collect the cash and choose how I wish to reinvest.
2) Never Sell; that's just one guy's opinion, but I like the concept. What it demands is that you pay particular attention to the decision of what and when to buy. If you want to "rebalance", you need to do so by adding new money. You can add new money from your wages or you can collect dividends and selectively reinvest.
3) Let your fast horses run. That's paraphrasing a rule from another guy I respect; don't sell your winners. He throws out the re-balancing idea, although he may be quietly buying more of his slower horses...
4) Reinvest. Again, capital gains don't compound. If you collect 3% in dividends and reinvest them, next year's dividends will be 3% higher, even if the company does NOTHING to raise the dividend per share. I mostly buy companies that raise their dividends, so it's usually more than that. The share count goes up by a percentage, the dividend goes up by a percentage, the dividend per share goes up by a percentage and the cumulative effect is significant rates of compounding in the position; both value and cash flow.
5) Valuation Matters. Where it matters is at the point of purchase. Buying high may not have a huge effect over a long holding period if the trajectory is steadily up, but there is never a time that it's mandatory to buy a given stock. There are almost always individual bargains to be had. If you combine valuation discipline at the point of purchase, a forever holding period and reinvestment, you have a cash producing engine that gains momentum steadily over time. You set it in motion and years later it will support you in your old age!
6) Monitor. How can you spot a company that is experiencing fundamental deterioration in it's business model, execution or some other fatal flaw; It starts with declining rate of earnings growth. It may be signaled by rising debt. The dividend payout ratio may be climbing. If the dividend growth rate is declining, one should start paying more attention. Some authors call it "the bench".
7) Have a plan. Write it down. Stick to it. That came from a retired law inforcement officer; He migrated to self management of individual equities a short couple of years ago. He has incredible discipline, way more than I do. But, as a result of his work, I do have a plan in my head, and I check my holdings pretty frequently against some of the parameters outlined by him and others.
Now, a few of my own contributions to the mix;
8) Take advantage of the DRIP. I'm making a portfolio bet rather than an individual stock bet. I want every position to compound. I don't know which one is going to race forward the most in the next interval, so I don't spend that much time trying to choose between them. I reserve the most effort in establishing my watch list, figuring out buy points, allocating new money when it arrives, learning to know the details of the companies I already own and what they are doing to grow their businesses.
9) Shovel as much money at the retirement plan as possible. First, that requires financial discipline. It means maximizing contributions to the company qualified plan. It means hit a savings target of total income; I use 20% of gross. I wish I had chosen a higher number before I let other obligations take a higher priority.
10) Insure against all the big risks; that means life, disability, house and property, casualty. Buy the disability riders so the protection stays in place if the income goes away.
11) Refocus on growth in cash flow (That means dividends and distributions). I work hard to keep that in focus, since it's easiest to see account balances and they go up and down all the time. It takes a bit more effort to see the increase in cash flow into the portfolio, but it almost always takes away the desire to sell a position whose stock price may be languishing a bit.
12) Eliminate debt. Damn, that's hard. Debt is poison when times get hard. Leverage can take you to insolvency if you don't keep it under control. Best to eliminate it altogether if possible.
13) Invest in stuff that people need in good times and bad. That means utilities, energy, consumer staples, real estate. That doesn't mean I don't own other sectors; it means I have a definite defensive bent to the mix however. In those sectors that don't represent the necessities of life, I still demand that my companies pay me now (that means distributions/dividends). I have the foundation pretty much built, but I keep scanning for additional holdings within those defensive sectors that might improve the quality or insulate against the risk of an individual company melt-down.
14) Diversify. The magic number is 50. I can track 50 holdings, more or less. That means a complete meltdown only costs me 2%. I have seen only seen a couple of 100% meltdowns in the 20 years I have been investing.
15) No earnings, no dividends, no investment. One exception; WB, the Oracle himself. BRK has tons of earnings, but all dividends go to the chairman and he decides how to spend them.
16) Keep the Peter Lynch rule in mind. It's also one of WB's rules.
17) I need to fold this one into the plan; credit quality; I need to start looking at the credit rating of my companies and trying to improve the credit quality of the portfolio.
There may be a few more; I'll think about it, but that's a decent summation of the result of a few thousand hours of reading, study, thinking, learning about being the manager of my own retirement portfolio.
Sunday, April 26, 2015
Is value back within reach?
It sure is hard to avoid all of the popular press on market valuation. We're into first quarter earnings season and things don't sound quite as bad as the pundits have been shouting. True, company after company is issuing cautious guidance for 2015, but most of the flat earnings I see in the big multinational companies are more related to currency issues than actual failure of the core business activity of the companies. There seems to be trouble everywhere; Russia, middle east, soft conditions in Asia, Europe and still, American corporations manage to post growth in volume of goods and services delivered, even if the profits aren't showing it.
The only reason I can think of to hold cash is in the expectation that conditions will be better for investing at some point in the future. I don't see any way to accurately determine that. What's more, I don't have a big bolus of new money anyway. I'd have to raise cash by shutting off the DRIP. It would take me a year under those conditions to build a 3% cash cushion. That hardly makes sense, in my opinion. I'm still better off making the total portfolio bet, given my level of skill in evaluating the overall market and each equity within it.
Wise voices continue to say; the holding period is forever, the best strategy is to sit on one's hands.
I think I'll keep sitting on them for now. I'll worry about what to do with new money when it arrives.
I'm seeing plenty of strong companies with forward P/E's in the 15-16 range now; I think there will be reasonable options when that time comes.
The only reason I can think of to hold cash is in the expectation that conditions will be better for investing at some point in the future. I don't see any way to accurately determine that. What's more, I don't have a big bolus of new money anyway. I'd have to raise cash by shutting off the DRIP. It would take me a year under those conditions to build a 3% cash cushion. That hardly makes sense, in my opinion. I'm still better off making the total portfolio bet, given my level of skill in evaluating the overall market and each equity within it.
Wise voices continue to say; the holding period is forever, the best strategy is to sit on one's hands.
I think I'll keep sitting on them for now. I'll worry about what to do with new money when it arrives.
I'm seeing plenty of strong companies with forward P/E's in the 15-16 range now; I think there will be reasonable options when that time comes.
Saturday, March 14, 2015
My interest rate is not rising...
A recent FOMC caused an immediate 4-and-some-odd-percent correction the value of my holdings.
A self-fulfilling prophesy, perhaps. If the market believes REITs and other higher-dividend equities are bond-equivalents, then it will reprice them according to what it believes is the risk-free interest rate, or will be soon. Funny, nothing actually happened, but apparently vague hints are all it takes to reprice real assets in this country.
It's not clear that the earning potential of any of my holdings has changed.
I looked at the trailing 12 month dividend payments to my IRAs; biggest 12 month interval in my history. At least the rising income piece seems to be intact. I can't completely look past the 4+% slide in account values from their peak, but this is the time for me to remember my principles and hold to the values I have adopted. If values drop another 20%, I still need to hold fast. I'm not aware of a better strategy than the one I've got, so there's little value in selling while prices are down. I've seen a few companies melt down. I know what that looks like. So far, nothing bad appears to be happening with any of my holdings, other than "headwinds" and a broad-based pull back in value.
I'm fully invested, as usual. That means no ready cash. The only way that is going to happen is turning off the DRIPs, or waiting for a cash infusion to the pension plan. That won't help the IRAs. I've watched some other investors sell a few companies that failed their screening criteria. I'm not convinced I have anything so broke it needs replacing. One guy I read simply says "never sell". Pretty easy advice. For now, I think I'll take it.
A self-fulfilling prophesy, perhaps. If the market believes REITs and other higher-dividend equities are bond-equivalents, then it will reprice them according to what it believes is the risk-free interest rate, or will be soon. Funny, nothing actually happened, but apparently vague hints are all it takes to reprice real assets in this country.
It's not clear that the earning potential of any of my holdings has changed.
I looked at the trailing 12 month dividend payments to my IRAs; biggest 12 month interval in my history. At least the rising income piece seems to be intact. I can't completely look past the 4+% slide in account values from their peak, but this is the time for me to remember my principles and hold to the values I have adopted. If values drop another 20%, I still need to hold fast. I'm not aware of a better strategy than the one I've got, so there's little value in selling while prices are down. I've seen a few companies melt down. I know what that looks like. So far, nothing bad appears to be happening with any of my holdings, other than "headwinds" and a broad-based pull back in value.
I'm fully invested, as usual. That means no ready cash. The only way that is going to happen is turning off the DRIPs, or waiting for a cash infusion to the pension plan. That won't help the IRAs. I've watched some other investors sell a few companies that failed their screening criteria. I'm not convinced I have anything so broke it needs replacing. One guy I read simply says "never sell". Pretty easy advice. For now, I think I'll take it.
Monday, March 2, 2015
Another perspective on relative investment performance
I spend a lot of time working for clarity on how to assess whether I'm doing ok with a given investment or with the entire portfolio of holdings that I have within my retirement portfolio.
A thought just came to me regarding how one might think about the situation conceptually.
First; one should ask; at what rate is inflation eroding the purchasing power of my wealth. Whatever my investments, they must make headway against inflation, or I am effectively in a savings account without a return on investment.
Second, is the company in which I am invested growing it's business or not? Did it produce more revenue this year than last year? Did it produce more profits this year than last year? Did it produce more than the rate of inflation?
Third: What about my position with that company? Did my position grow slower, the same or faster than the growth of the company? Is my investment in the company compounding or not?
Very simply, if the value of a position grows less than the rate of inflation, one is in a losing investment. If the portfolio value grows less than the rate of inflation, one is in a losing portfolio.
Since my focus is primarily on producing a rising stream of income on which I will eventually live, valuation is a secondary issue to cash flow. It is possible for a portfolio to produce increasing cash flow even as it's value is declining, stagnant or growing at a rate lower than inflation, but only for a while. Eventually, there must be rising earnings in order to support rising dividends. There should be growth in valuation as a consequence of those rising earnings.
So, this thought is about how one monitors a holding, or the entire portfolio.
Start with the overall cash value of the portfolio. Has it increased on a year to year basis? If new money is coming in, then that must be subtracted in order to see the investment performance.
Second, what about each holding? Has the position grown in value? If not, what about the income stream? by how much? less or more than inflation?
Finally, what about relative performance? If one's best efforts are not as good as a well constructed dividend producing ETF or mutual fund, then why expend the effort at managing one's own portfolio. Time is money, or even better; time is the one equity that cannot be purchased with money. Time expended should deliver significant value or it should be spent on something else than managing a portfolio.
So, how am I doing? Good question; let's look.
4/30/2013 12/31/2013 12/31/2014
Trad 797743 815164 912752
Roth 136897 143127 138412
Trad div 20895 23619 25612
(12mo est)
Roth div 6117 6215 5938
(12mo est)
What happened? In my roth account in 2013, I succumbed to some speculative temptations; lost a bunch of money in battery storage and biotech companies that did not have positive earnings or dividends. I actually sold some dividend-paying stock that I wasn't interested in and blew it on speculation. I decided I wouldn't do that again, so I sold out after the losses, reinvested what remained back into more conservative holdings.
I have a Schwab 401k account. It includes both Roth and traditional components, but it looks like one account. I can't break out the percentage of one from the other at the moment, with current reporting. That is an actively growing account, with pension and profit sharing contributions. It is a "smaller cap" DGI portfolio, but I'm rethinking that strategy at this point. I can hold small- and medium-cap companies in any of my accounts and it really doesn't matter in the long run. For the sake of clarity, it may be easier to segregate types of holdings in one account. I'll be thinking abut that in upcoming days...
A thought just came to me regarding how one might think about the situation conceptually.
First; one should ask; at what rate is inflation eroding the purchasing power of my wealth. Whatever my investments, they must make headway against inflation, or I am effectively in a savings account without a return on investment.
Second, is the company in which I am invested growing it's business or not? Did it produce more revenue this year than last year? Did it produce more profits this year than last year? Did it produce more than the rate of inflation?
Third: What about my position with that company? Did my position grow slower, the same or faster than the growth of the company? Is my investment in the company compounding or not?
Very simply, if the value of a position grows less than the rate of inflation, one is in a losing investment. If the portfolio value grows less than the rate of inflation, one is in a losing portfolio.
Since my focus is primarily on producing a rising stream of income on which I will eventually live, valuation is a secondary issue to cash flow. It is possible for a portfolio to produce increasing cash flow even as it's value is declining, stagnant or growing at a rate lower than inflation, but only for a while. Eventually, there must be rising earnings in order to support rising dividends. There should be growth in valuation as a consequence of those rising earnings.
So, this thought is about how one monitors a holding, or the entire portfolio.
Start with the overall cash value of the portfolio. Has it increased on a year to year basis? If new money is coming in, then that must be subtracted in order to see the investment performance.
Second, what about each holding? Has the position grown in value? If not, what about the income stream? by how much? less or more than inflation?
Finally, what about relative performance? If one's best efforts are not as good as a well constructed dividend producing ETF or mutual fund, then why expend the effort at managing one's own portfolio. Time is money, or even better; time is the one equity that cannot be purchased with money. Time expended should deliver significant value or it should be spent on something else than managing a portfolio.
So, how am I doing? Good question; let's look.
4/30/2013 12/31/2013 12/31/2014
Trad 797743 815164 912752
Roth 136897 143127 138412
Trad div 20895 23619 25612
(12mo est)
Roth div 6117 6215 5938
(12mo est)
What happened? In my roth account in 2013, I succumbed to some speculative temptations; lost a bunch of money in battery storage and biotech companies that did not have positive earnings or dividends. I actually sold some dividend-paying stock that I wasn't interested in and blew it on speculation. I decided I wouldn't do that again, so I sold out after the losses, reinvested what remained back into more conservative holdings.
I have a Schwab 401k account. It includes both Roth and traditional components, but it looks like one account. I can't break out the percentage of one from the other at the moment, with current reporting. That is an actively growing account, with pension and profit sharing contributions. It is a "smaller cap" DGI portfolio, but I'm rethinking that strategy at this point. I can hold small- and medium-cap companies in any of my accounts and it really doesn't matter in the long run. For the sake of clarity, it may be easier to segregate types of holdings in one account. I'll be thinking abut that in upcoming days...
Sunday, February 22, 2015
Illustrating the DRIP
I have chosen to use the dividend reinvestment plan through my discount broker to reinvest dividends in my retirement plan holdings. I choose to do so for simplicity and because I am making my performance bet on the entire portfolio, rather than on discerning the "best value" component on a quarter to quarter basis.
From an income growth perspective, it's not immediately apparent which holdings produce the most robust dividend growth if one is watching what the broker delivers in the monthly investment report, which is primarily about the value of the overall portfolio and of each position.
I have tabulated the actual dividend payments over time from a few of my holdings to illustrate the amount of actual dividend growth that I have experienced over the holding period.
WMT
In 2011 I purchased 200 shares of WMT for $10,884.30
Over the next 4 quarters I received $323.11 in dividends with which I purchased 5.424 shares
Over the next 4 quarters I received $360.26 in dividends with which I purcahsed 4.908 shares
Over the next 4 quarters I received $403.44 in dividends with which I purchased 5.322 shares
My cost per share increased from $55.05 to $75.74 per share in that interval. Dividends received in the last year were 24.9% higher than the first year. Examining the actual payments shows that each yearly payment was a bit over 10% higher than the prior year. Dividend reinvestment accounts for just under 3% of the yearly dividend growth, and dividend increases account for the remainder. My share count increased by 7.8% over 3 years.
MCD
In November 2010, I purchased 150 shares of MCD for $10,723.90.
Over the next 4 quarters I received $374.14 in dividends with which I purchased 4.674 shares.
Over the next 4 quarters, I received $442.23 in dividends with which I purchased 4.76 shares.
Over the next 4 quarters, I received $501.92 in dividends with which I purchased 5.23 shares.
Over the next 4 quarters I received $545.25 in dividends with which I purchased 5.633 shares.
My cost per share increased from $67.95 to a high of $100.65 during that interval.
The number of shares purchased each year increased and the last year's dividends were 45.3% higher than the first year, demonstrating dividend growth of about 11% per year. Dividend reinvestment accounts for about 3% annual increase in dividends and dividend increases account for the remainder.
My share count increased by 13.5% over 4 years.
JNJ
In 2009 I purchased 203 shares of JNJ for about $11,715.
Over the next 4 quarters I received $431.41 in dividends, with which I purchased 7.035 shares.
Over the next 4 quarters I received $481.26 in dividends, with which I purchased 7.569 shares
Over the next 4 quarters I received $529.93 in dividends, with which I purchased 8.161 shares
Over the next 4 quarters I received $590.75 in dividends, with which I purchased 7.444 shares
Over the next 4 quarters, I received $651.88 in dividends, with which I purchased 6.638 shares
My cost per share increased from $60.90 to $103.96 in that interval. The number of shares purchased varied from year to year, and clearly effected by the rising share price in the latter two years. The last year's dividends were 51.1% higher than the first year, demonstrating a dividend growth of about 10.2% over that interval. Dividend reinvestment accounts for 3% of the annual dividend growth and dividend increases account for the remainder. My share count increased by 18.2% over 5 years.
I don't have the patience to repeat this for each of my retirement holdings, but these examples demonstrate that investing in blue-chip dividend-paying companies with a history of raising dividends and following a dividend reinvestment plan can result in actual growth in income approaching 10% per year. These examples are not companies with torrid earnings growth OR dividend growth rates, They are mature companies with moderate growth rates and substantial dividend payments. However, with dividend reinvestment, they produce adequate cash income growth within the position that a doubling of that income every 7-10 years is easily within reach. Given the strong disincentive for companies such as these to cut dividends, the rising income is relatively reliable, even if earnings are more variable and the stock price is volatile. While rising earnings will tend to boost both stock price AND dividends, even stagnant earnings can still yield a rising income as dividends are reinvested, as well as through dividend increases which sometimes happen even in a stagnant earnings environment. When one chooses to take a distribution from the payments, the rate of growth in income will slow, but it should still be possible to see the portfolio keep pace with inflation if inflation stays within reasonable bounds. I'm hopeful to build a portfolio where a 3% distribution will suffice to meet our maintenance needs. Other writers have demonstrated that this is possible.
It's easy to be preoccupied with issues surrounding the purchase and sale of blocks of stocks, where one must pay close attention to valuation in order to achieve reasonable investment returns over time. Once that purchase is complete however, a DRIP program allows you to average into a larger position over time, adding shares in times of both lower and higher valuation, resulting in an overall favorable entry point over time. Using a DRIP, one adds no more than 2-5% to the position in a given year, so it is unlikely that one will make in imprudent decision to purchase a large block of shares just before a price correction or in an emotional response to changing market. It seems to me that the interval between the purchase and eventual sale (which could be never) is where most of the action within the position and the portfolio occurs. It is certainly where the income is generated, unless you enjoy selling stock. For me, buying and selling stock is like buying and selling a house; something to be done carefully and very infrequently. However, I have no problem with adding onto and remodeling the house periodically.
I should reiterate that valuation matters most to the individual who intends to sell some or all of a position to harvest capital gains. Income matters most to the individual who intends to build a cash-producing conglomerate that will continue to spit out increasing cash over time. Rising value is not the income-seeking investor's friend. Increases in valuation are an inevitable consequence of rising earnings and dividends, but not the opposite. Rising value blunts the power of compounding for the income seeking investor.
In order to assure that a dividend growth strategy performs similarly to an equally diligent capital-gains oriented strategy, it's important to take advantage of tax-deferred and tax-exempt vehicles such as the 401k, Roth 401k, IRA and Roth IRA accounts that limit the tax exposure of the investment proceeds over time. The critics of dividend-payments in general have their strongest argument with investments held in after-tax accounts. Fortunately, most of us working stiffs will accumulate the majority of our assets within the bounds of company or individual retirement accounts, blunting the arguments against this strategy.
The examples above demonstrate the potential for one to receive a substantial raise EVERY year with a carefully selected diversified portfolio of dividend-paying stocks. I can assure you that I don't have this opportunity in my daily work, in spite of substantial control over the rate at which I work. If you haven't taken a hard look at the actual growth of cash payments within your DGI portfolio, doing so may give you some comfort about the power of compounding contained within a dividend reinvestment program.
Sunday, February 8, 2015
Taking a hard look at the dividend growth motive
I read about and follow the dividend-growth school of retirement investing. This school of investing espouses purchasing equities with a long history of dividend growth. Devotees of dividend growth investing state their primary interest in creating a portfolio that will produce an ever-increasing stream of income, with which they can pay expenses or re-invest, or both. They claim to be less interested in total return or in capital gains. My problem is that I can't rest completely easily in the new orthodoxy of the dividend growth strategy.
In my heart of hearts, I worry that my dividend-growth strategy won't take me to the place I want to be. In order to have that stream of income, I need a pretty big pot of value. The best performance I can see from folks who post their performance indicates a steady 4% off of the portfolio is possible. I worry that my strategy won't create the big pot of value that I need in the time that need it. At the moment, my portfolio yields about 40k in dividends yearly. At a 10% total return, it will yield 80k in cash when I'm 62 years of age and it will yield 160k when I'm 69 years of age. That doesn't include future investments. If I maximize my pre-tax deferrals for another 10 years, I'll have another $600k in some kind of retirement asset by then, yielding another $24,000 per year at age 65, and another $48,000 at age 72. I guess that should be enough. The government says I should work until I'm 67, so I could put away close to 750k. Actually, I don't see myself working like I do now for another 12 years. If the combined current retirement portfolio assets of my wife and I were to double twice and we could harvest 4% off of it with a high-dividend strategy, there would be about $5 million in assets and $200,000 in yearly income. That's an optimistic estimate, as two doublings before we retire may not happen. Once we start to draw income from the portfolio, the net rate of appreciation will decline substantially. However, we'll contribute another $500k to the effort between now and then, so maybe that target isn't so unreasonable.
So...do I really believe in that strategy? What if I can't earn 10% every year? What if my average is more like 7% per year. that means doubling in 10 years. What if there's a big recession and my portfolio takes a hit like 2008? The best dividend growth companies marched through 2008-9 and never missed a beat with their dividends. Their value plummeted along with the rest of the market, only not so severely. The investor who didn't panic and sell out saw values rebound within a couple of years. I've been doing this long enough now that I'm pretty sure I won't panic and sell out. My biggest risk is simply not getting the investment performance I'm expecting from my dividend growth strategy.
There are still some big expenses ahead of us. My child's private school education is frighteningly expensive. We'll live under a bridge before my wife would sacrifice that experience for him. We'll be on the hook for college between ages 63-67 or so. It may be that inheritance will cover that expense, but no counting chickens...
I'm not counting on SSI, but if it's there when I'm ready to lay down the scalpel, I'll be happy to take it. According to a wise contributor to an investment site I read, SSI should be looked at as the fixed income-portion of one's retirement portfolio; yields about 3-4%, indexes up with inflation, a modest contributor to the whole.
One should ask, what will a couple of old people do with all that money anyway? I'll be surprised if we're hopping around the world at that point. We'll be fortunate to have our health. We'll be fortunate if our son has established himself independently. We'll be lucky if the world is a hospitable place in which to wander around. One thing to acknowledge is that we won't quit working altogether in that interval. I can't imagine taking a traditional retirement. What we'll need to do is cover our expenses.
I'm pretty certain I couldn't capitulate and go back to fund, or fund of funds, or capital-gains investing. I fret enough as it is about capital value of my holdings, even knowing the dividend reinvestment is at work. I haven't completely abandoned the old me. So, I'll trudge along with this strategy and hope that eventually the hyper-vigilance will go away and I'll trust more fully in the process.
So, I guess I'm committed, since I can more easily see 3-4% dividends reinvested, along with 5-7% capital appreciation leading to a 10% total return on investment over the long haul, than hoping for higher capital gains and eventually converting to a "harvesting" regimen. If it only makes 7% per year, I can still get to a comfortable place where most or all of my wages are replaced by investment earnings.
In my heart of hearts, I worry that my dividend-growth strategy won't take me to the place I want to be. In order to have that stream of income, I need a pretty big pot of value. The best performance I can see from folks who post their performance indicates a steady 4% off of the portfolio is possible. I worry that my strategy won't create the big pot of value that I need in the time that need it. At the moment, my portfolio yields about 40k in dividends yearly. At a 10% total return, it will yield 80k in cash when I'm 62 years of age and it will yield 160k when I'm 69 years of age. That doesn't include future investments. If I maximize my pre-tax deferrals for another 10 years, I'll have another $600k in some kind of retirement asset by then, yielding another $24,000 per year at age 65, and another $48,000 at age 72. I guess that should be enough. The government says I should work until I'm 67, so I could put away close to 750k. Actually, I don't see myself working like I do now for another 12 years. If the combined current retirement portfolio assets of my wife and I were to double twice and we could harvest 4% off of it with a high-dividend strategy, there would be about $5 million in assets and $200,000 in yearly income. That's an optimistic estimate, as two doublings before we retire may not happen. Once we start to draw income from the portfolio, the net rate of appreciation will decline substantially. However, we'll contribute another $500k to the effort between now and then, so maybe that target isn't so unreasonable.
So...do I really believe in that strategy? What if I can't earn 10% every year? What if my average is more like 7% per year. that means doubling in 10 years. What if there's a big recession and my portfolio takes a hit like 2008? The best dividend growth companies marched through 2008-9 and never missed a beat with their dividends. Their value plummeted along with the rest of the market, only not so severely. The investor who didn't panic and sell out saw values rebound within a couple of years. I've been doing this long enough now that I'm pretty sure I won't panic and sell out. My biggest risk is simply not getting the investment performance I'm expecting from my dividend growth strategy.
There are still some big expenses ahead of us. My child's private school education is frighteningly expensive. We'll live under a bridge before my wife would sacrifice that experience for him. We'll be on the hook for college between ages 63-67 or so. It may be that inheritance will cover that expense, but no counting chickens...
I'm not counting on SSI, but if it's there when I'm ready to lay down the scalpel, I'll be happy to take it. According to a wise contributor to an investment site I read, SSI should be looked at as the fixed income-portion of one's retirement portfolio; yields about 3-4%, indexes up with inflation, a modest contributor to the whole.
One should ask, what will a couple of old people do with all that money anyway? I'll be surprised if we're hopping around the world at that point. We'll be fortunate to have our health. We'll be fortunate if our son has established himself independently. We'll be lucky if the world is a hospitable place in which to wander around. One thing to acknowledge is that we won't quit working altogether in that interval. I can't imagine taking a traditional retirement. What we'll need to do is cover our expenses.
I'm pretty certain I couldn't capitulate and go back to fund, or fund of funds, or capital-gains investing. I fret enough as it is about capital value of my holdings, even knowing the dividend reinvestment is at work. I haven't completely abandoned the old me. So, I'll trudge along with this strategy and hope that eventually the hyper-vigilance will go away and I'll trust more fully in the process.
So, I guess I'm committed, since I can more easily see 3-4% dividends reinvested, along with 5-7% capital appreciation leading to a 10% total return on investment over the long haul, than hoping for higher capital gains and eventually converting to a "harvesting" regimen. If it only makes 7% per year, I can still get to a comfortable place where most or all of my wages are replaced by investment earnings.
Saturday, January 31, 2015
Where's the forest amongst all these trees?
Is it good times or bad? Are we in recovery or on the brink of the next world-wide financial crisis? Certainly there are crises of all manner at our fingertips in the news.
Here we are in earnings season again. The market is choppy; up 1%, down 2%, up another 1%, down 1.5%. Companies reporting record earnings, missing estimates. Which is it...good or bad? Dividend increases, soft guidance. Perhaps a pattern is emerging; Record earnings, soft guidance leads to a "earnings beat" and higher valuation the next quarter. Valuations remain high, and I'm starting to see some pundits talk like there's a "new normal". You know what happened the last time people were talking that way. The problem is, if there weren't traders, there wouldn't be a market. Can you imagine a day in the stock market where everyone just stayed home, because they didn't like the prices? Still, I'm DRIPing my way to fully invested, allowing my cost basis to ratchet up bit by bit, Am I foolish? I hate cash sitting there, not working. I also think that a few fractional shares, purchased at higher valuation, will be balanced sooner or later by some shares purchased at depressed valuation, and the share count will keep growing. I like that compounding, even if it's purely the share count. I care about valuation when I have a chunk of cash to invest. I care about valuation at the point I sell shares, which is almost never. I care about valuation if the earnings and dividends are stagnant or dropping, that's for sure. But what about a quarter with soft earnings? What about 2-3 quarters, or even a year? What about McDonalds? What about Coca Cola?
Too much noise...what would happen if I just shut it all off and came back 5 years from now? Leave the DRIPS in place, forget about balancing, just wander off and do something more interesting and find out what's still standing 5 years from now.
I thought there was a bolus of new cash coming into the retirement portfolio. I finally figured out where to look and my last year's contributions are complete. So, I can go back to worrying about what's in there, not what to buy next. Back to watching the ticker, as if I could ever stop. Back to watching those dividends hit the account. Back to sitting on my hands.
Here we are in earnings season again. The market is choppy; up 1%, down 2%, up another 1%, down 1.5%. Companies reporting record earnings, missing estimates. Which is it...good or bad? Dividend increases, soft guidance. Perhaps a pattern is emerging; Record earnings, soft guidance leads to a "earnings beat" and higher valuation the next quarter. Valuations remain high, and I'm starting to see some pundits talk like there's a "new normal". You know what happened the last time people were talking that way. The problem is, if there weren't traders, there wouldn't be a market. Can you imagine a day in the stock market where everyone just stayed home, because they didn't like the prices? Still, I'm DRIPing my way to fully invested, allowing my cost basis to ratchet up bit by bit, Am I foolish? I hate cash sitting there, not working. I also think that a few fractional shares, purchased at higher valuation, will be balanced sooner or later by some shares purchased at depressed valuation, and the share count will keep growing. I like that compounding, even if it's purely the share count. I care about valuation when I have a chunk of cash to invest. I care about valuation at the point I sell shares, which is almost never. I care about valuation if the earnings and dividends are stagnant or dropping, that's for sure. But what about a quarter with soft earnings? What about 2-3 quarters, or even a year? What about McDonalds? What about Coca Cola?
Too much noise...what would happen if I just shut it all off and came back 5 years from now? Leave the DRIPS in place, forget about balancing, just wander off and do something more interesting and find out what's still standing 5 years from now.
I thought there was a bolus of new cash coming into the retirement portfolio. I finally figured out where to look and my last year's contributions are complete. So, I can go back to worrying about what's in there, not what to buy next. Back to watching the ticker, as if I could ever stop. Back to watching those dividends hit the account. Back to sitting on my hands.
Saturday, January 10, 2015
Stock for sale
Selling...
Sell; a bad word, one I'd prefer to avoid uttering. No one wants to talk about selling stock. The few, the brave, tackle it now and again.
Why is it a bad word? Well, if you sell you may realize gains, or not. If so, it may be a tax generating move. If you sell at a loss, you've lost. Bad choice, unforeseen circumstance, incomplete data set; something, but still a loss and the regret of not foreseeing what was coming.If you sell because you need cash, you reduce the size of your engine. If you sell to rebalance, you're probably cashing in a winner, rotating from your faster horse to a slower one. If you sell an "overvalued" stock, you are obligated to have an idea in mind for where you'll invest that cash. We all know cash is slowly losing against inflation.
So, I'm not predisposed to sell stock. The Oracle himself said that his ideal holding period is forever.
Some very smart older investors in the pages I read say sell never, or rarely. I like that advice, because it relieves me of the concern that there will be many of the circumstances that warrant serious consideration of selling shares. It also tells me that the one of the key factors in avoiding the need to sell a stock is the nature of the decision to buy in the first place.
Investors have different names for their foundational holdings. Core stocks, "forever stocks", high conviction stocks, widows and orphans stocks are all names applied to the ones you intend to buy and never sell. Food never goes out of style and never is made obsolete by advances in technology. Toilet paper and toothpaste appear to have the same qualities. Electricity, water, telecommunications are similar in eternal necessity and appeal. In the last century, this one and perhaps the next, petroleum products seem to be similarly necessary, although supply, demand and prices can be pretty volatile. Buildings to house ourselves and our businesses appear to be a very stable place to invest, in general.
With a bit of attention to detail, purchase of such companies comes down purely to a "at what price" decision. The proverbial "margin of safety" fairly quickly gives one room to tolerate a significant downdraft and still have an asset the performs well over the long haul, and throws off cash on which you can live. Once purchased, you can basically forget about them, reinvest dividends until you need them, and rest assured that they will be there far longer than you will, continuing to generate income.
Many investors have another class of stocks that are not core, but are still considered to be long term holds for capital appreciation, income or both. Technology stocks are often thrown into this category. One doesn't know if they will be around 30 years from now or in what form, but in the intermediate term future they appear to be vital to our economy and are pumping out lots of cash. Many cyclical industrial stocks fit into this category. Again, the purchase decision is the key decision, and selling is either based on a target amount of appreciation, the end of a business cycle or some kind of horrible disruption that couldn't be anticipated.
Finally, there are the speculative investments. No earnings, no income, lots of potential growth, but who knows if they will be the winner or a competitor will leave them in the dust. Here's the problem; they are by nature volatile, the story may take many years to play out, and one may see paper losses long before being ready to take gains. I've learned that this kind of investing just gives me too much heartburn and it's not for me. So rather than worry when to sell, I just won't buy in the first place.
So what about those other "sell rules"? What about flattening of the earnings curve? What about declining rate of dividend growth, freeze or cut? What about "fundamental changes in the business"?
I don't have adequate experience in exercising these sell rules, so the best I can say is that I'll look at each of these on a case to case basis, hope that I hear the rumors before the facts occur on the ground and hope I don't show up too late to the "sell" party, when the losses have already been severe.
Since the reasons for "crisis selling" are infrequent and I am holding somewhere around 50 ownership positions, I can withstand a 50% loss in one position with a mere 1% effect on the overall portfolio value; roughly the dividend payout of a single quarter for my portfolio. That is the value of diversification.
One thing I'm learning about stocks that lose a lot of value; the reason they lost the value is generally the same reason they aren't likely to roar back to even, unless they are a victim of a smear campaign or some market irrationality. If the reasons are internal to the management, sales or earnings, then one is best choosing another horse to ride back to the barn. That's where the cold, emotion-free, attachment-free, no-pride attitude comes in. No basketball player I know shoots 100%.
After a missed shot, they come back and shoot again. In investing, the missed shot has to be completed by a "sell". Otherwise, that piece of the game just comes to a halt. I am amazed at how quickly the "hurt" in a loss goes away after you turn it into cash. When it hurts most is while you are holding that depreciated asset, hoping things will magically turn around and roar back like your original thesis foretold.
I've begun to pay more attention to what the most mature voices I read call "quality" in companies. Some use credit ratings on debt as a metric for quality. They also depend on the duration of the dividend and earnings history, payout ratio and other indications of safety of the dividend. Given that dividend freezes, cuts and suspensions all are value killers, it makes sense to focus on dividend coverage for those companies that make a point of paying significant dividends. Since those are the companies I like to buy, I'm going to start paying more attention to how one distinguishes quality in the earnings/dividends and debt rating. Then that ugly "sell" word won't need uttering very often.
Sell; a bad word, one I'd prefer to avoid uttering. No one wants to talk about selling stock. The few, the brave, tackle it now and again.
Why is it a bad word? Well, if you sell you may realize gains, or not. If so, it may be a tax generating move. If you sell at a loss, you've lost. Bad choice, unforeseen circumstance, incomplete data set; something, but still a loss and the regret of not foreseeing what was coming.If you sell because you need cash, you reduce the size of your engine. If you sell to rebalance, you're probably cashing in a winner, rotating from your faster horse to a slower one. If you sell an "overvalued" stock, you are obligated to have an idea in mind for where you'll invest that cash. We all know cash is slowly losing against inflation.
So, I'm not predisposed to sell stock. The Oracle himself said that his ideal holding period is forever.
Some very smart older investors in the pages I read say sell never, or rarely. I like that advice, because it relieves me of the concern that there will be many of the circumstances that warrant serious consideration of selling shares. It also tells me that the one of the key factors in avoiding the need to sell a stock is the nature of the decision to buy in the first place.
Investors have different names for their foundational holdings. Core stocks, "forever stocks", high conviction stocks, widows and orphans stocks are all names applied to the ones you intend to buy and never sell. Food never goes out of style and never is made obsolete by advances in technology. Toilet paper and toothpaste appear to have the same qualities. Electricity, water, telecommunications are similar in eternal necessity and appeal. In the last century, this one and perhaps the next, petroleum products seem to be similarly necessary, although supply, demand and prices can be pretty volatile. Buildings to house ourselves and our businesses appear to be a very stable place to invest, in general.
With a bit of attention to detail, purchase of such companies comes down purely to a "at what price" decision. The proverbial "margin of safety" fairly quickly gives one room to tolerate a significant downdraft and still have an asset the performs well over the long haul, and throws off cash on which you can live. Once purchased, you can basically forget about them, reinvest dividends until you need them, and rest assured that they will be there far longer than you will, continuing to generate income.
Many investors have another class of stocks that are not core, but are still considered to be long term holds for capital appreciation, income or both. Technology stocks are often thrown into this category. One doesn't know if they will be around 30 years from now or in what form, but in the intermediate term future they appear to be vital to our economy and are pumping out lots of cash. Many cyclical industrial stocks fit into this category. Again, the purchase decision is the key decision, and selling is either based on a target amount of appreciation, the end of a business cycle or some kind of horrible disruption that couldn't be anticipated.
Finally, there are the speculative investments. No earnings, no income, lots of potential growth, but who knows if they will be the winner or a competitor will leave them in the dust. Here's the problem; they are by nature volatile, the story may take many years to play out, and one may see paper losses long before being ready to take gains. I've learned that this kind of investing just gives me too much heartburn and it's not for me. So rather than worry when to sell, I just won't buy in the first place.
So what about those other "sell rules"? What about flattening of the earnings curve? What about declining rate of dividend growth, freeze or cut? What about "fundamental changes in the business"?
I don't have adequate experience in exercising these sell rules, so the best I can say is that I'll look at each of these on a case to case basis, hope that I hear the rumors before the facts occur on the ground and hope I don't show up too late to the "sell" party, when the losses have already been severe.
Since the reasons for "crisis selling" are infrequent and I am holding somewhere around 50 ownership positions, I can withstand a 50% loss in one position with a mere 1% effect on the overall portfolio value; roughly the dividend payout of a single quarter for my portfolio. That is the value of diversification.
One thing I'm learning about stocks that lose a lot of value; the reason they lost the value is generally the same reason they aren't likely to roar back to even, unless they are a victim of a smear campaign or some market irrationality. If the reasons are internal to the management, sales or earnings, then one is best choosing another horse to ride back to the barn. That's where the cold, emotion-free, attachment-free, no-pride attitude comes in. No basketball player I know shoots 100%.
After a missed shot, they come back and shoot again. In investing, the missed shot has to be completed by a "sell". Otherwise, that piece of the game just comes to a halt. I am amazed at how quickly the "hurt" in a loss goes away after you turn it into cash. When it hurts most is while you are holding that depreciated asset, hoping things will magically turn around and roar back like your original thesis foretold.
I've begun to pay more attention to what the most mature voices I read call "quality" in companies. Some use credit ratings on debt as a metric for quality. They also depend on the duration of the dividend and earnings history, payout ratio and other indications of safety of the dividend. Given that dividend freezes, cuts and suspensions all are value killers, it makes sense to focus on dividend coverage for those companies that make a point of paying significant dividends. Since those are the companies I like to buy, I'm going to start paying more attention to how one distinguishes quality in the earnings/dividends and debt rating. Then that ugly "sell" word won't need uttering very often.
Thursday, January 1, 2015
Some ideas on the effect of dividend cuts on one's DG investing fortunes
The average DG investor appears to hold less than/equal to 50 individual equities in his/her portfolio. From the conversations I have monitored here over the years, that seems to be the outer margin of companies that the average individual investor can keep track of.
The early phase of the investor's history is accumulation. That includes accumulation of value, but also accumulation of the portfolio team members. During that phase, most of the attention is paid to performance; earnings growth, capital appreciation, and in the case of the DG investor, rising dividends and cash flow within the portfolio. The "protect your capital" and "protect your income stream" ideas don't seem to be so prominent until one passes through the accumulation phase and into the living-on-distributions phase.
While it is true that a wage earner will not suffer a cash flow crisis as long as the next pay check is coming along, the distinction between accumulation phase and distribution phase from the standpoint of capital preservation is arbitrary. Protecting capital earlier in one's investing history actually has an outsized effect on one's security in the long run, as one is likely to be more vulnerable to discrete losses early in one's investment history. First, there's the experience thing. Second, there's the relative lack of diversification as one builds the number of positions over time. Third, there's the opportunity loss of future earnings if one makes a big mistake with assets that could have 30-40 years to compound if carefully protected.
A dividend cut is a capital killer. It is a symptom of an engine that is failing. Earnings are failing, and the company turns it's resources inwards as it attempts to repair the damage. The company may recover its valuation completely over time but that dividend is your electric bill if you're in the distribution phase.
The investor is faced with a set of challenges; should you do nothing? should you wait and then respond to dividend cuts? Should you anticipate them and attempt to abandon/switch ownership before such an event happens? Avoiding capital losses seems to mandate the anticipate/avoid strategy.
Dividend cuts are always proceeded by something. The company management and board make a decision based on their view of the near term future. They see a threat to earnings, or they have already realized the damage and are now attempting to repair it. They need cash for something other than the dividend. The question is, can you (the owner) anticipate these events and choose to change ownership before the ship hits rough water?
What do you have at your disposal?; You can wait for the announcement of a dividend cut. Problem is, valuation has already taken a big hit by then.
You can look for signs of impending trouble. What might these be?
Deceleration of earnings growth
Deceleration of dividend growth
Rising payout ratio
Rising debt
rising ratio of debt to free cash flow, enterprise value or other similar ratios
Oh boy... that means monitoring. How many data points? How often? what to do with warnings? watch list? sell? what to do with the cash?
Can you innoculate the portfolio against the kind of companies that could face a dividend cut?
credit rating? Payout ratio? Cap on dividend yield?
eyes closing, rounds and surgery on New Year's Day, must pack it in.
The early phase of the investor's history is accumulation. That includes accumulation of value, but also accumulation of the portfolio team members. During that phase, most of the attention is paid to performance; earnings growth, capital appreciation, and in the case of the DG investor, rising dividends and cash flow within the portfolio. The "protect your capital" and "protect your income stream" ideas don't seem to be so prominent until one passes through the accumulation phase and into the living-on-distributions phase.
While it is true that a wage earner will not suffer a cash flow crisis as long as the next pay check is coming along, the distinction between accumulation phase and distribution phase from the standpoint of capital preservation is arbitrary. Protecting capital earlier in one's investing history actually has an outsized effect on one's security in the long run, as one is likely to be more vulnerable to discrete losses early in one's investment history. First, there's the experience thing. Second, there's the relative lack of diversification as one builds the number of positions over time. Third, there's the opportunity loss of future earnings if one makes a big mistake with assets that could have 30-40 years to compound if carefully protected.
A dividend cut is a capital killer. It is a symptom of an engine that is failing. Earnings are failing, and the company turns it's resources inwards as it attempts to repair the damage. The company may recover its valuation completely over time but that dividend is your electric bill if you're in the distribution phase.
The investor is faced with a set of challenges; should you do nothing? should you wait and then respond to dividend cuts? Should you anticipate them and attempt to abandon/switch ownership before such an event happens? Avoiding capital losses seems to mandate the anticipate/avoid strategy.
Dividend cuts are always proceeded by something. The company management and board make a decision based on their view of the near term future. They see a threat to earnings, or they have already realized the damage and are now attempting to repair it. They need cash for something other than the dividend. The question is, can you (the owner) anticipate these events and choose to change ownership before the ship hits rough water?
What do you have at your disposal?; You can wait for the announcement of a dividend cut. Problem is, valuation has already taken a big hit by then.
You can look for signs of impending trouble. What might these be?
Deceleration of earnings growth
Deceleration of dividend growth
Rising payout ratio
Rising debt
rising ratio of debt to free cash flow, enterprise value or other similar ratios
Oh boy... that means monitoring. How many data points? How often? what to do with warnings? watch list? sell? what to do with the cash?
Can you innoculate the portfolio against the kind of companies that could face a dividend cut?
credit rating? Payout ratio? Cap on dividend yield?
eyes closing, rounds and surgery on New Year's Day, must pack it in.
resolutely resolving
The clock just turned into the new year. One minute to the next. What is significant about that? Why do we celebrate one minute, one day? Isn't it all a continuum? If one needs to mark a waypoint, then why not mark it with a significant resolution? New Years Resolutions...made to be broken, right?
what makes that rare beast, the resolution one keeps? I wish I knew.
What about my retirement investing life? What could happen in the new year? In the last year I saw a 10+% growth in value, not counting new contributions. I suppose the market could take it all back, even more. What would that do to my resolve? Am I convinced enough to stay the course? I know one thing; higher or lower valued, the portfolio will spin off 35k plus another 5-7% in dividends, so perhaps 37k. I'll add another 55k in contributions, for 92k. That could mitigate nearly 10% against a down-draft. If the valuation stays even, the dividend plus new contributions will grow the corpus by nearly 10%. If valuations rise, the corpus could rise further than 10%.
We have a richly valued stock market, margin compressions in many industries for this reason and that, prospects for rising interest rates that tend to depress the value of multiple types of investment. I guess I shouldn't keep my hopes up for the most optimistic scenario in valuation.
So, will I stay the course? I can't see an alternative. Am I disciplined enough to critically monitor my holdings? Funny; some of the best minds I know say buy, hold forever. That takes some of the pressure out of monitoring. That means that the most important question is, did I make prudent purchases? As I scan my portfolios, it seems like I did. I culled out the bad ones. There's a reason for every position I hold.
So, I resolve to stay the course. I resolve to only sell when something goes fundamentally wrong with a business. I resolve to only buy stocks that I will hold even if they lose 25% or more of their value in the short term. I resolve to focus on rising dividends, reinvestment, watching share counts grow, income grow, watching earnings, margins, payout ratios and trying not to look so often at the valuations. I resolve to believe that the US economy is the most resilient one in the world, the safest store of wealth, the one with the brightest long term prospects over time. I resolve to keep reading, constantly. I resolve to engage in conversation with peers. I resolve to be respectful and constructive in my comments. I resolve to keep an eye on the goal with each purchase, each balancing move. I resolve to only buy more stock if the valuation is acceptable, not just because cash is burning a hole in my pocket.
tall order, but since I have been practicing all this, there's a reasonable chance I will pull it off.
Happy New Year.
what makes that rare beast, the resolution one keeps? I wish I knew.
What about my retirement investing life? What could happen in the new year? In the last year I saw a 10+% growth in value, not counting new contributions. I suppose the market could take it all back, even more. What would that do to my resolve? Am I convinced enough to stay the course? I know one thing; higher or lower valued, the portfolio will spin off 35k plus another 5-7% in dividends, so perhaps 37k. I'll add another 55k in contributions, for 92k. That could mitigate nearly 10% against a down-draft. If the valuation stays even, the dividend plus new contributions will grow the corpus by nearly 10%. If valuations rise, the corpus could rise further than 10%.
We have a richly valued stock market, margin compressions in many industries for this reason and that, prospects for rising interest rates that tend to depress the value of multiple types of investment. I guess I shouldn't keep my hopes up for the most optimistic scenario in valuation.
So, will I stay the course? I can't see an alternative. Am I disciplined enough to critically monitor my holdings? Funny; some of the best minds I know say buy, hold forever. That takes some of the pressure out of monitoring. That means that the most important question is, did I make prudent purchases? As I scan my portfolios, it seems like I did. I culled out the bad ones. There's a reason for every position I hold.
So, I resolve to stay the course. I resolve to only sell when something goes fundamentally wrong with a business. I resolve to only buy stocks that I will hold even if they lose 25% or more of their value in the short term. I resolve to focus on rising dividends, reinvestment, watching share counts grow, income grow, watching earnings, margins, payout ratios and trying not to look so often at the valuations. I resolve to believe that the US economy is the most resilient one in the world, the safest store of wealth, the one with the brightest long term prospects over time. I resolve to keep reading, constantly. I resolve to engage in conversation with peers. I resolve to be respectful and constructive in my comments. I resolve to keep an eye on the goal with each purchase, each balancing move. I resolve to only buy more stock if the valuation is acceptable, not just because cash is burning a hole in my pocket.
tall order, but since I have been practicing all this, there's a reasonable chance I will pull it off.
Happy New Year.
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