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| Forecasting Future Dividends |
For instance, I may run calculations using what I believe to
be conservative assumptions e.g., 2% stock price appreciation and 3% dividend
growth over a short horizon such as 8-10 years.
I’ll also do the analysis using moderate trends as well as what I think
may be best case conditions. From my
perspective historical market trends are what I consider best case e.g., 3.5%
price growth with 3.5% to 4% dividend to start plus moderate dividend growth
annually and a time horizon beyond 15 years.
As a DIY dividend investor, I generally focus on the
conservative case to bake in a margin of safety (thank you Mr. Graham). Then I’ll look at the other two scenarios to
gauge the upside under moderate to best case conditions. Rarely are my exercises conducted using
assumptions above historical averages.
Growth rates have a tendency to revert to the mean over time. Variables beyond the average aren’t likely to
be sustained through my investment horizon and therefore aren’t used in the
models.
So what models do I use?
There are a few I like to run for cross-checking projections. As you might expect, different models produce
different outcomes since each can include variables the others don’t.
For instance, I start with a simple Future Value (FV) model
using Excel. This is a good one because
there are only a few variables in it allowing me to run it from any handy spreadsheet. However, the minimal variable model also
means it’s tough to bake in assumptions about future dividend growth rates.
In FV, the interest rate used may be a composite of the expected
price appreciation and dividend growth rates rather than separate levers adjusted
individually. Also, FV provides a final
output rather than showing the position each year between the beginning and
ending years.
The next model I’ll use is the Dollar-Cost-Averaging (DCA) model
from the DRIP Investing web site which publishes the list of Champions,
Contenders, and Challengers. This model is nice because it allows me to plug in separate figures for dividend and
stock price growth rates respectively. Consequently, there are more variables to tinker with; exploring various
assumptions and fine tuning the model.
Finally, I may drop my basic numbers into the Compound Growth
Rate (CGR) vs Annualized Rate model found within the same tool as the DCA. The model doesn’t allow for many variable adjustments. However, its value lies in offering an aggregate
look at possible outcomes from a valuation standpoint while providing compound
and annualized rates to see how quickly (or slowly) my portfolio is growing.
The number of adjustable “knobs and dials” on each model is
different meaning each produces a slightly different answer. However, when starting with common items like
beginning value, investment horizon, periodic additions, and similar growth
rates, whether aggregated or broken out, the range of values across models may
fall within 10% - 15% of one another.
In my latest analysis, the FV model provided the most
conservative estimate. The DCA model
produced the best case outcome which was about 15% higher given similar
inputs. The CGR model fell roughly half
way between the two. As stated earlier, I
generally focus on the output from the FV model since it’s the most
conservative.
Once the figures are developed in the models, I’ll apply my
current portfolio dividend yield to the final values to see what my expected
stream of dividend payments may be at the end of my horizon. If the forecast payment stream for the
horizon in question is lower than expected I need to determine whether to add seed
money to the farm, extend the horizon, modify the assumptions in the
models, or some combination of the three.
Regularly checking my assumptions and reviewing future
possibilities helps me keep my eye on the target. It allows me to consider whether or not I’m
retaining a sufficient margin of safety across my portfolio as I go. Finally, I don’t aspire to be excessively
rich, but would like to run a solid dividend farm, provide for my family, help
others when and where I can, and enjoy a modest, comfortable retirement. Anything beyond that is frosting on the cake.
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.
