6 Reasons Dividend Stocks Beat Bonds

U.S. Treasury Bond

Bonds.  Are.  Confusing.  That’s it in a nutshell.  However, it doesn’t provide an explanation nor does it make for a good post so I’ll continue.

Whether you’re discussing Yield to Maturity, Pricing, Tax Equivalent Yield, Coupons, Duration, Callability, Convertibility, or any number of other characteristics of the bond world, it’s wise to be conversant in bond effluvia to avoid the classic “circle the drain” move with your investment funds.

Below are 6 reasons dividend stocks beat bonds.

1. Bond yields move opposite to bond prices.  When one goes up, the other goes down.  It doesn’t matter which one moves, the other generally moves in opposition.  This is a function of the math involved in pricing the bonds as well as the laws of supply and demand in relation to the going rate of interest or yield on similar bonds.  Dividend paying stocks may see yields and price moving in opposite directions, but when they do it’s generally because the price of the stock has been bid up while the dividend payment remains unchanged resulting in a smaller yield.  It’s not a function of supply / demand and the involved application of algebra that cause the inverse movement.
2. Bond valuations are complex.  Establishing the value of such investments requires detailed knowledge or analysis of the variables mentioned earlier that go into the formulation of such securities.  Dividend paying stocks of large, established firms provide ample financial data and profile information about the company allowing even DIY investors to determine a certain level of value.  An investor can decipher the income statement and balance sheet of Parker Hannifin to determine whether the stock price accurately reflects the operations of the company.  Conversely, the same investor may undergo a non-trivial level of angst in attempting to understand the true value of a corporate bond with a yield to maturity of X, a duration of 12 years (9 years remaining), sold into a rising interest rate environment, with or without attendant tax consequences.
3. Complexity leads to excess fees.  Because bonds are complex few laymen understand them.  Consequently, investing in bonds requires the assistance of a professional who charges fees for the assistance.  Alternatively, substantial losses may be incurred as an investor learns “on the job”, dropping money along the way, because he wanted to avoid the costly professional.  When it comes to dividend stock investing, there are plenty of tools readily available to help investors along the path.  From DRIPInvesting.org to Yahoo.Finance to Investopedia, the number of low or no-cost resources are too numerous to mention.  In addition, it’s easier for an investor to understand what Home Depot does than what’s involved with a municipal general obligation bond, due in 2035, floated 6 years ago by Whatchamacallit County.
4. Bond yields are fixed.  From the time a bond is floated to the time it reaches maturity or is called, the payment or coupon is rarely if ever increased.  Divided paying stocks can and do increase their dividend payments over time.  In fact, many companies will raise their dividend payments annually with some having done so many years in a row.  As a result, a dividend stock can provide small, regular increases in cash flow while a bond cannot.  Case in point, part of my dividend portfolio has seen an average increase in the dividend payment of more than 4% across the investments in that basket during the past year.
5. Lender vs owner.  They say owning has its privileges.  If true, bond purchases make you a lender while dividend stock purchases make you a part owner in the firm.  As a part owner, you have voting rights.  You get a say in what the company does and how it does it.  As a bond holder, you don’t.  Granted, as a part owner, you’ll be in line behind the lenders (bond holders) if the firm goes belly up.  However, if your decision to invest is based on where you stand in line when the corporate carcass is divided, then maybe you shouldn’t be investing in that firm in the first place.
6. Convertability.  Some bonds are convertible to stock after a certain period of time.  In other words, the lender (see #5) is granted the opportunity to become part owner of the enterprise.  Stock holders are not offered the chance to convert their stock to bonds moving from owner to lender.  That one-way street should offer pause when considering which is better.  Why would I be offered the possibility of converting from a bond to a stock, but not the other way?  Maybe because one is better than the other?

James Bond 007

In fairness to bonds, my favorite spy was named Bond.  James Bond.  He liked his martinis shaken, not stirred.  I like my investments neither shaken nor stirred (converted?) as a general rule of thumb.  So while I enjoy Bond on the big screen, I’m not sure about Bonds in my portfolio.  Are you?

The thoughts and opinions expressed here are those of the author, who is not a financial professional.  Opinions expressed here should not be considered investment advice.  They are presented for discussion and entertainment purposes only.  For specific investment advice or assistance, please contact a registered investment advisor, licensed broker, or other financial professional.

    

Dividend Farming and Mr. Market

Benjamin Graham, father of value investing, characterized the stock market as an individual named Mr. Market.  Mr. Market would look at companies available and in many cases arbitrarily value each based on how he felt that day; by what his mood dictated.  On a given day Mr. Market would be manic, depressed, or anything in between – save logical.  Mr. Market is a financial mood ring.

When dealing with Mr. Market, the intelligent investor is consistent, logical, and studiously avoids the histrionics of Mr. Market and his emotional swings.  Mr. Market’s antics are largely uncontrollable by the typical investor.  However, per Graham, the savvy investor can control the following:

Brokerage costs – trade infrequently and at low cost.

Ownership costs – avoid mutual funds and investments with excessive annual expenses.

Internal expectations – diligently forecast based on facts and realism, not bandwagon motives.

Risk – mitigation through sound diversification.

Tax bills – hold stocks at least 1 year and preferably 5 to reduce capital gains rates.

Behavior – be wary when following the masses for sometimes the “m” is silent.

As Jason Zweig noted in Chapter 8 of Graham’s Intelligent Investor, “The whole point of investing is not to earn more money than average, but to earn enough money to meet your own needs.”  Meeting your needs while not worrying about the market is the essence of Dividend Farming.  As a Dividend Farmer, you can “put in place a financial plan and a behavioral discipline likely to get you where you want to.”

Ben Graham dryly notes, “The intelligent investor will do better if he forgets about the stock market and pays attention to his dividend returns and to the operating results of his companies.”  This statement is a core precept of Dividend Farming which addresses the controllable factors noted previously.  Dividend Farming helps control:

Brokerage costs by keeping them to a minimum buying and holding dividend paying stocks rather than feverishly day trading.

Ownership costs which are reduced since dividend reinvestment plans rarely carry management fees.  Furthermore, dividend stocks allow you to reinvest your dividends with no brokerage fees further reducing ownership costs.

Internal expectations that can be positioned in your favor by looking at the history of dividend payments.  While past performance is no guarantee of future success, any firm paying dividends for 25 years or more will fight strenuously to protect and grow that dividend record.  Such focus means stability of operation is critical to the company and helping reduce the risk inherent in forecasting.

Risk is limited through sound diversification as discussed in this diversification post.

Tax bills are minimized through the buy, hold, and grow strategy of dividend farming.  Some dividends may be taxed as ordinary income, but much of your growth falls into the capital gains bucket taxed at a lower rate.

Behavior inherent in dividend farming focuses on the time, care, and compound growth of a crop.  This kind of attention is a great way to curb the excessive and often rash behavior of Mr. Market.

Intelligent investing is more than brains, it’s character. Former Senator Dan Coats said, “Habit is the daily battleground of character.”  Dividend farming pursued diligently provides the habit supporting the character necessary for successful, long-term investing helping reach your financial goal.

The thoughts and opinions expressed here are those of the author, who is not a financial professional.  Opinions expressed here should not be considered investment advice.  They are presented for discussion and entertainment purposes only.  For specific investment advice or assistance, please contact a registered investment advisor, licensed broker, or other financial professional.

Portfolio: November 2018

The November Dividend Farmer update saw a shift in portfolio weight relative to October.  Changes to weights at the bottom end of the basket were attributable to the addition of 100 shares of a telco.  Conversely, changes to weighted position at the top end were due mostly to REIT holdings all paying dividends, automatically reinvested, during the month.

In monitoring news articles and blogs no issues were found to be overly concerning regarding my holdings.  Once again, I’m not checking ticker symbols on a regular basis since my focus is on building the dividend income stream rather than market value.  Consequently, I try to focus on substantive issues adversely affecting the abilities of the investments to generate cash and didn’t find any in headline.  

The yield relative to current price bumped up from 3.82% in October to 3.84% in November due to the addition of the telco stock with an individual yield sufficiently high that it moved the portfolio yield ever so slightly.  All dividends are automatically reinvested with no transactions fees.  Unweighted average yield on cost is about 4.6%; nearly 1% higher than the current yield on price of 3.84%.

The average monthly dividend from this basket has now surpassed $1,100 – by a few bucks.  That doesn’t pay all the bills, but it is nice supplemental income if needed.  The trailing 1-year CAGR ballooned from 10.6% to 12.6%.  In looking at past history, jumps like these appear to coincide with dividend increases announced by multiple holdings in a single month.  Each month accelerates the income stream growth through the power of compounding.  The Compound Growth post offers more detail about the power of compounding your dividends through automatic reinvestment.

The thoughts and opinions expressed here are those of the author, who is not a financial professional.  Opinions expressed here should not be considered investment advice.  They are presented for discussion and entertainment purposes only.  For specific investment advice or assistance, please contact a registered investment advisor, licensed broker, or other financial professional.

Dollar-cost Averaging Powers Dividend Farming

Dollar-cost averaging is an integral part of DividendFarming.  It’s a powerful method of growing a great financial crop.  The best part; it’s simple and automatic.

In a nutshell, dollar-cost averaging means contributing an amount of money to your investment portfolio to purchase stock on a monthly basis.  You could also do so quarterly, but monthly is advantageous due to the increased number of compounding periods.  The more the merrier, but I digress.  As an example, you might purchase $100 worth of stock each month and do so irrespective of whether the stock’s price has increased or decreased.

Courtesy of JP Morgan

With dollar-cost averaging you may purchase a few shares at high prices, but you are also likely to purchase more shares at lower prices.  The table below demonstrates the principle using the $100 example mentioned previously.

Month	Share Price	Shares Purchased
January	$25	4
February	$28	3.5
March	$27	3.7
April	$23	4.3
May	$20	5
June	$22	4.5
TOTAL		25

You will have purchased anywhere from 3.5 to 5 shares per month with your $100 investment as long as you were disciplined about putting money into your brokerage account and making the purchase. 

Brokerage Fees and Partial Shares

Realistically, if you were making the purchases with contributions to your account, the stock purchase figures would be lower because you would have paid a brokerage fee each time you made a purchase.  If a broker charged you $5 for each trade, you would be investing only $95 per month to buy stock.  Consequently, the quantity of stock you buy each month would be lower than shown. 

It should also be noted you can’t buy partial shares this way.  This means another portion of your $100 would be unavailable to use for purchases each month.  This money could be held in the account and used to supplement your purchase the following month, but you still miss the full effect of dollar-cost averaging.  The next table offers clarity.

Month	Share Price	Commission Fee	Funds Available	Shares Purchased	Balance
January	$25	$5	$95	3.0	$20
February	$28	$5	$95	3.0	$6
March	$27	$5	$95	3.0	$9
April	$23	$5	$95	4.0	$3
May	$20	$5	$95	4.0	$10
June	$22	$5	$95	4.0	$7
TOTAL				21	$56

In this example, which is more realistic, you would purchase only 21 shares during the same 6-month period versus the previous case.  You would contribute $30 to your broker for the privilege of making the purchases.  An additional $56 of your $600 in investment funds accumulated in the account because you can’t purchase partial shares. 

Based on the purchase prices shown, you would have to accumulate the leftover funds for about 3 months before you could use them to purchase an additional share of stock.  You effectively lost $86 ($30 + $56) or 14.3% of your investment to the broker or the opportunity-cost associated with not being fully invested each month.

Ok, if you lose a large chunk of your investment funds in the dollar-cost averaging example shown, how can that be beneficial to you as a dividend farmer?  When farming dividend stocks, the dividend payments can be accepted into your brokerage account as cash and reinvested in additional dividend stock.  Managing your dividends this way results in the kind of attrition highlighted in the second table.

DRIP Strength

However, if you have your dividend payments automatically reinvested in the companies paying them, you avoid the brokerage fees and you’re allowed to purchase partial shares.  When you receive $600 worth of dividends and reinvest them in a DRIP, you put the full $600 to work for you, compounding all the way, increasing your crop yield.  

This is the true power of dividend reinvestments.  Additionally, you’re assured of automatic contributions to your portfolio each month.  Efficient, disciplined investing maximizing your ability to grow a healthy dividend crop.  Who doesn’t like that?

   

The thoughts and opinions expressed here are those of the author, who is not a financial professional.  Opinions expressed here should not be considered investment advice.  They are presented for discussion and entertainment purposes only.  For specific investment advice or assistance, please contact a registered investment advisor, licensed broker, or other financial professional.

4 Rules for Stock Investing from Benjamin Graham

Dividend investing (farming) is considered a form of defensive investing by the trading class.  It’s defensive because dividend stocks are generally less volatile than growth stocks, for instance.  This means div stocks typically won’t see huge value appreciation but shouldn’t experience large declines either.  And any decline they do experience can be partially offset by dividend distributions.  Hence defending against losses with limited potential.  Or so goes the theory.

For the Dividend Farmer's Library

Intelligent Investing was characterized in the last post as being less about raw intelligence than persistent fortitude; the ability to stick with the process.  Although the view is rather philosophical, it’s not intuitively practical.  Fortunately, 114 pages into Graham’s work, he provides 4 specific and practical rules when selecting common stock for the Intelligent Investor’s portfolio.

Diversification:  Per Graham, diversification should be adequate, but not excessive.  This might mean a minimum of ten different issues and a maximum of thirty.  The Dividend Farmer’s post on investment diversification  covered the probability underlying this stratagem and proposed a portfolio of 20-30 well selected stocks, possibly less, to mitigate investment risk through diversified holdings.

Size:  Selected companies should be large, prominent, and conservatively financed.  Large, prominent firms carry the notion of substantial size or market capitalization of roughly $10 billion and occupy a leading position in their respective industry.  As for conservatively financed, Graham indicates such firms should have a book value per share that’s at least half its current market value.

Dividend Payments:  Each company should have a long record of continuous dividend payments; at least 10 consecutive years.  An earlier post on Dripinvesting.org offers visibility into how many companies are available that meet or easily exceed this guidance.

Price:  Graham suggests a limit on the price an investor is willing to pay for a stock investment that’s no more than 25 times its average earnings.  Since growth stocks frequently have price to earnings multiples well in excess of 25 times, this benchmark is a reasonable guide for staying within the bounds of defensive investments which suits this Dividend Farmer well.

What does this mean if you’re interested in Dividend Farming?  The diversification rule is well covered in a related post linked above. 

Size can be readily determined by using Yahoo Finance to investigate the firm in which you’re interested.  Plug the company name or ticker symbol, if you have it, into the search bar and the firm's profile page appears.  The Summary tab provides the firm’s market capitalization or size in the first line under the heading. 

Dividend payment history is located on the same Yahoo page under the Historical Data tab.  Click the Historical Prices drop-down menu and select Dividends Only.  What you’ll see is a string of dividend payments and payment dates.  This means you’ll have to scroll through the dividend payment dates and determine the length of history on your own. 

Alternatively, you can go to the previously referenced DRiP Investing.org and find the information in a handy Champions, Contenders, and Challengers (CCC) spread sheet.  Within that sheet the number of years of consecutive dividend payments is clearly provided.

As for the price, the same CCC spreadsheet offers up a 5-year Price to Earnings Growth figure.  Alternatively, you can find a Trailing Twelve Months (TTM) Price to Earnings figure on the same Yahoo Finance page Summary tab for your firm along with the Market Capitalization.  The TTM data will be 3 lines below the Market Cap figure.

With the two resources mentioned, DRiPInvesting.org and Yahoo Finance, you can do plenty of the research required to find good investment ground.  If you’re working through a large brokerage like Schwab, TD Ameritrade, Fidelity, or others, you likely have access to a host of similar tools to help you determine where you’ll plant your dividend investment seeds.  From there, keep on farming.

The thoughts and opinions expressed here are those of the author, who is not a financial professional.  Opinions expressed here should not be considered investment advice.  They are presented for discussion and entertainment purposes only.  For specific investment advice or assistance, please contact a registered investment advisor, licensed broker, or other financial professional.

Intelligent Investing: More character, less brain

Patience.  Discipline.  Education

One of the books on my current reading list is The Intelligent Investor by Benjamin Graham.  If you don’t know who Benjamin Graham is, but are familiar with Warren Buffett, know this – Graham was Buffett’s financial teacher and mentor.  Graham is known as the father of value investing.

I read through The Intelligent Investor ten or twelve years ago.  It’s been on my shelf since then, occasionally referenced, but mostly collecting dust.  Because of Dividend Farmer, which discusses a form of value investing, I thought I’d wade through 536 pages of Graham’s work once more.

The tome serves up plenty of knowledge on the fundamentals of investing and foundational principals like margin of safety.  Although I’m keen to reexamine these topics, I’m also fascinated by Graham’s philosophical perspective.

For instance, Graham defines the term intelligent investor early on indicating that intelligence doesn’t mean possessing exceptional IQ or SAT scores.  Instead, intelligence is a function of patience, discipline, eagerness to learn, and the ability to think for yourself rather than following conventional wisdom.

4 Things a Dividend Farmer Needs discussed the requirement for patience and care in tending your dividend investments.  This diligence includes careful selection up front as well as monitoring and waiting patiently after the seeds have been planted in order to harvest your crop. 

The principal of buying and holding solid companies is a cornerstone in Graham’s value investment world.  The beauty of it is that finding, buying, and holding quality companies over the long run doesn’t require a Ph.D. or a degree in rocket science.  Dividend Farmer isn’t about piling it higher and deeper or employing orbital mechanics to get to an investment destination.

However, value investing through dividend farming requires a touch of persistence in discovering value and holding onto it in the face of advice from the trading class.  Remember, traders don’t get paid for investing so much as they get paid for you buying and selling.  This may be why traders on the floor of the New York Stock Exchange cheer at the closing bell regardless of whether the market went up or down.  The fact that it was moving at all meant people were trading, putting transaction costs into the traders’ pockets along the way.

As it pertains to trading one should be careful when following the masses because the “m” is often silent.  Value investing and dividend farming aren’t perennial favorites of the trading crowd or the media chattering class.  Neither approach is sexy nor generates transaction churn driving money into traders’ accounts instead of yours.  However, as Graham’s record and that of his protégé attest, value investing has stood the test of time.  It’s my belief that dividend farming, which parallels and overlaps value investing in many ways, will do so, too.  Thus far, I’m pleased with the results and happy to say I’m a Dividend Farmer.

The thoughts and opinions expressed here are those of the author, who is not a financial professional.  Opinions expressed here should not be considered investment advice.  They are presented for discussion and entertainment purposes only.  For specific investment advice or assistance, please contact a registered investment advisor, licensed broker, or other financial professional.