DIY Dividend portfolio

[Target59]

New to the forum ... first post, so take it easy on me.

I've got a FA friend who is trying to convince me that he's worth 1% of my assets every year. (My wife wants more than that, but that's a different topic). I like the FA's dividend philosophy; however, 1% seems spendy and I'm heavily leaning towards a DIY approach. I would appreciate opinions on how I'm thinking about my portfolio. The specifics:

• 53 years old
• Shooting to FIRE at 59
• Current assets = $1.2 MM in 401k - all stock mutual funds; $100k in after tax brokerage - all stocks; $30k cash
• Looking for $80k/year pre-tax in retirement (today's $); will have around 50% of that from SS and a pension
• FIRECALC says I'm in good shape - 100% success.

After reading a bit about the benefits of a dividend strategy, I'm leaning that way. But since I'm not much of a researcher, I probably don't have the skill or patience to put together a portfolio of individual stocks. I've been playing with a hypothetical Vanguard portfolio that seems to be a reasonable solution. Here's what I'm thinking:

• Div Index VHDYX 50.0%
• Mid Cap Value VOE 7.5%
• Small Cap Value VBR 7.5%
• REIT VGSLX 5.0%
• Bonds BND 25.0%
• Utility ETF VPU 5.0%

The current yield on that would be 2.83% and the 10 year dividend growth has been 4.6%. I'm planning to start transitioning my portfolio in the new year by moving money from the 401k, where my options are limited, to a Vanguard IRA. What are your thoughts on my strategy?

 

[VanWinkle]

New to the forum ... first post, so take it easy on me.

I've got a FA friend who is trying to convince me that he's worth 1% of my assets every year. (My wife wants more than that, but that's a different topic). I like the FA's dividend philosophy; however, 1% seems spendy and I'm heavily leaning towards a DIY approach. I would appreciate opinions on how I'm thinking about my portfolio. The specifics:

• 53 years old
• Shooting to FIRE at 59
• Current assets = $1.2 MM in 401k - all stock mutual funds; $100k in after tax brokerage - all stocks; $30k cash
• Looking for $80k/year pre-tax in retirement (today's $); will have around 50% of that from SS and a pension
• FIRECALC says I'm in good shape - 100% success.

After reading a bit about the benefits of a dividend strategy, I'm leaning that way. But since I'm not much of a researcher, I probably don't have the skill or patience to put together a portfolio of individual stocks. I've been playing with a hypothetical Vanguard portfolio that seems to be a reasonable solution. Here's what I'm thinking:

• Div Index VHDYX 50.0%
• Mid Cap Value VOE 7.5%
• Small Cap Value VBR 7.5%
• REIT VGSLX 5.0%
• Bonds BND 25.0%
• Utility ETF VPU 5.0%

The current yield on that would be 2.83% and the 10 year dividend growth has been 4.6%. I'm planning to start transitioning my portfolio in the new year by moving money from the 401k, where my options are limited, to a Vanguard IRA. What are your thoughts on my strategy?

Your plan is not bad at all if you want to see dividends over growth. It is really just mental accounting, but the most important parts are low cost(that eliminates the 1% FA who would be taking over a 1/3 of your dividends) diversification(you could do better with a total market fund for US stocks and foreign stocks) and sticking with the plan for the long term(maybe adjusting the bonds as you get closer to retirement).

I think you could do a little better, but you could do much worse with high fees, individual stocks, and an adviser who is not really needed according to your plan.

Best to you,

Dan

 

[pn3069]

To use an FA or not is more an emotional/behavioral question.

Once you figure out whether you need an FA or not, then you can seek the lowest cost solution:

For example, if you decide you do not need an FA, then you can choose low cost funds to construct a portfolio.

On the other hand, if you need an FA, there are low cost FAs like Vanguard PAS or robo advisors and such.

I for one do not need an FA since I have the discipline to stick to my investment plan - and I use all Vanguard ETFs/OEFs to achieve an expense ratio of 0.1% for my portfolio. I employ both active and index funds.

 

[pn3069]

I also want to chime in that building a portfolio just based on dividends could be short sighted... ultimately it is important to position the portfolio so it can grow over and beyond inflation while staying within the risk/volatility bands you are comfortable to be in.

 

[W2R]

My portfolio is just broad index funds, like Total Stock Market and Total Bond Market, plus I do have 30% Wellesley.

This approach allows growth but also seems to be providing me with sufficient dividends to support my preferrred lifestyle. YMMV. I do have SS and a mini-pension too.

 

[OldShooter]

I don't pay any attention to dividends. I agree with @VanWinkel that it's more mental accounting rather than being substantively different. My interest and dividends are always reinvested. When I need some cash I just sell a few shares of something. These small transactions don't affect our AA. We look at AA once a year between Xmas and New Years, then make a trade or two if necessary.

I have this in my bookmark library: https://famafrench.dimensional.com/videos/homemade-dividends.aspx 6 minutes of Ken French on the subject. Maybe it will be useful to someone.

 

[LOL!]

I'll bet W2R's simple portfolio has a higher dividend yield than the 2.83% listed by the more complicated portfolio.

The OP's strategy is 75% equities and 25% bonds. The equities have some volatile choices. Those 2 things combined (75% equities, volatility) suggest that it would work great if equities only go up, but if equities go down as they do 25% to 37% of the time, it won't turn out so well.

And the 1% to the FA (if chosen) just comes right off the yield, doesn't it? So a 3% yield, really would mean a 2% yield.

 

[DrRoy]

i've got a fa friend who is trying to convince me that he's worth 1% of my assets every year.

no.

however, 1% seems spendy and i'm heavily leaning towards a diy approach.

yes.

 

[alaska55]

I'll bet W2R's simple portfolio has a higher dividend yield than the 2.83% listed by the more complicated portfolio.

The OP's strategy is 75% equities and 25% bonds. The equities have some volatile choices. Those 2 things combined (75% equities, volatility) suggest that it would work great if equities only go up, but if equities go down as they do 25% to 37% of the time, it won't turn out so well.

And the 1% to the FA (if chosen) just comes right off the yield, doesn't it? So a 3% yield, really would mean a 2% yield.

Where did you take math classes at? 30% of Wellesley at 2.87%, 70% of BND at 2.46% and VTI at 1.81%. Depending on his Allocation he mosts likely under 2.5% it impossible to beat 2.83% with that portfolio.As to how volatile go check out the morningstar style box and in the the 07-09 market crash it lost less than Total stock market and the S&P 500. I do agree with everybody to forget about paying someone 1%.

 

[mathjak107]

Your plan is not bad at all if you want to see dividends over growth. It is really just mental accounting, but the most important parts are low cost(that eliminates the 1% FA who would be taking over a 1/3 of your dividends) diversification(you could do better with a total market fund for US stocks and foreign stocks) and sticking with the plan for the long term(maybe adjusting the bonds as you get closer to retirement).

I think you could do a little better, but you could do much worse with high fees, individual stocks, and an adviser who is not really needed according to your plan.

Best to you,

Dan

yep , it is only mental accounting yet it is something few understand .

getting a 4% dividend is the same as pulling 4% out of your total portfolio . there is no differences except perhaps some slight transaction costs or tax differences .

in fact you may be better off not doing it as dividends .

if you are not in the zero capital gains bracket , don't forget you pay taxes on the entire dividend , if it is from a portfolio that saw its total return from appreciation you only pay on the gain not the whole amount like that dividend .

 

[VanWinkle]

yep , it is only mental accounting yet it is something few understand .

getting a 4% dividend is the same as pulling 4% out of your total portfolio . there is no differences except perhaps some slight transaction costs or tax differences .

in fact you may be better off not doing it as dividends .

if you are not in the zero capital gains bracket , don't forget you pay taxes on the entire dividend , if it is from a portfolio that saw its total return from appreciation you only pay on the gain not the whole amount like that dividend .

Thanks for the clarification on the taxation of Dividends over Capital gains. It is important to remember after tax gains is what we get to put in our(wives) pockets.

VW

 

[Target59]

Thanks for the help. 2 points:

• Almost all of the dividends would come from the IRA, so I don't think it matters regarding taxation.
• I understand that it's somewhat mental gymnastics to choose dividends, but I think it would help my peace of mind. It appears that the dividend funds are less volatile over time. And when the market dives, I won't feel as bad about spending dividends as I would about selling shares at a depressed price.

 

[Danmar]

Thanks for the help. 2 points:

• Almost all of the dividends would come from the IRA, so I don't think it matters regarding taxation.
• I understand that it's somewhat mental gymnastics to choose dividends, but I think it would help my peace of mind. It appears that the dividend funds are less volatile over time. And when the market dives, I won't feel as bad about spending dividends as I would about selling shares at a depressed price.

Yes, it has been proven that divs don’t matter but nevertheless I have a div growth portfolio. I am well aware that divs are only a “instalment on earnings”. There may well be tax reasons why divs are not optimal (certainly in my case). But still, getting those divs every month feels like a steady income and I like that feeling.

In Canada (I’m Canadian) the best companies tend to pay divs so it’s hard to avoid them. I, like you, would not want to sell in a down market, and feel better about getting divs. It’s convenient and makes planning easier, almost auto pilot.

I might do it differently if I were to start over, but given my imbedded cap gains, that’s not an option.

 

[mathjak107]

Thanks for the help. 2 points:

• Almost all of the dividends would come from the IRA, so I don't think it matters regarding taxation.
• I understand that it's somewhat mental gymnastics to choose dividends, but I think it would help my peace of mind. It appears that the dividend funds are less volatile over time. And when the market dives, I won't feel as bad about spending dividends as I would about selling shares at a depressed price.

whether you feel bad or not spending shares vs spending dividends is only a mental thing . they are the same in both cases .

all that matters is total return . how you draw it off is relevant .assets don't care if it is all dividends , all appreciation or a combo of the two .

 

[OldShooter]

whether you feel bad or not spending shares vs spending dividends is only a mental thing . they are the same in both cases .

all that matters is total return . how you draw it off is relevant .assets don't care if it is all dividends , all appreciation or a combo of the two .

Agreed, but I think Ken French makes a good point in that video I linked: Chasing dividends & income may tempt one to distort an equity portfolio in self-defeating ways or to add risk to a fixed income portfolio. Emphasis on "may" of course.

 

[mathjak107]

it could very well do that . i have seen those who do not understand dividends go for these crazy high dividend paying stocks and then have the share price get hammered .

in the end they were terrible stocks .

 

[youbet]

it could very well do that . i have seen those who do not understand dividends go for these crazy high dividend paying stocks and then have the share price get hammered .

in the end they were terrible stocks .

True. Being a high div payer hardly guarantees a stock will have an attractive total return. However, being a no/low div payer also does not guarantee that a stock will have an attractive total return. (Don't ask me how I know!)

Your statement concerning high div payers being "in the end they were terrible stocks" could certainly be true for any given stock. OTOH, it could also not be true and readers should not generalize this to imply all high div payers will be terrible stocks.

 

[Danmar]

True. Being a high div payer hardly guarantees a stock will have an attractive total return. However, being a no/low div payer also does not guarantee that a stock will have an attractive total return. (Don't ask me how I know!)

Your statement concerning high div payers being "in the end they were terrible stocks" could certainly be true for any given stock. OTOH, it could also not be true and readers should not generalize this to imply all high div payers will be terrible stocks.

Agree. Using high div yield as the sole reason to buy a stock is usually a bad idea. My portfolio market yield is around 3.5% and total (CAGR)return over last 10 years is a little over 10%- much higher than my benchmark (total Canadian market, TSX). It’s the underlying quality of business/management that counts. In Canada at least, most of the high quality names pay divs.

 

[mathjak107]

True. Being a high div payer hardly guarantees a stock will have an attractive total return. However, being a no/low div payer also does not guarantee that a stock will have an attractive total return. (Don't ask me how I know!)

Your statement concerning high div payers being "in the end they were terrible stocks" could certainly be true for any given stock. OTOH, it could also not be true and readers should not generalize this to imply all high div payers will be terrible stocks.

if we generalize anything it is that dividend payers are STILL STOCKS . they all have all the risk of stocks and no stock is immune to not living up to expectations .

as you hear all the time , just buy the dividend aristocrats and call it a day .

however what constitutes this group changes all the time so get ready for lots of selling trying to keep up as they get bumped and replaced AFTER THE FACT THEY DID NOT LIVE UP TO EXPECTATIONS . you could be behind the curve here very easily .

these dividend aristocrats are not somehow immune to all the things that effect company's and stocks . Just like other companies, their outcomes change.

in 2009 there were 52 stocks that met the group’s strict criteria.

As of 2012, there were 51.

But of those 51, 13 were different than the original set. So over the course of just 3 years, there was a 27% change in the group’s composition.

in fact going back to 1989's list :

Of those 26, seven are still on the list today, ten were removed because they either cut or froze their dividend, four were removed for an unknown reason, and the remainder were acquired at some point. So at least ten of the 26 had an outcome that is different from the assumption of dividend growth every year through thick and thin.

 

[enjoyinglife102]

Personally, I would never dismiss or bad mouth "mental gymnastics". Investing isn't difficult, sticking to an investment plan is difficult. Do whatever works for you that gives you the best chance to achieve your goals.

 

[OldShooter]

Personally, I would never dismiss or bad mouth "mental gymnastics". Investing isn't difficult, sticking to an investment plan is difficult. Do whatever works for you that gives you the best chance to achieve your goals.

I think the first time I read the term "mental accounting" was in Nudge by Richard Thaler. It is a behavioral finance concept. I don't know if he coined it or not.

It is not necessarily a bad thing, as you point out, but it has its pitfalls. The classic example is a gambler who wins, puts his original stake in his pocket, and proceeds to gamble more aggressively with his "house money" than he would ever gamble with his own money. Of course it is all his own money, it is just the mental accounting that separates it into two "different" types. More here: https://www.investopedia.com/university/behavioral_finance/behavioral5.asp

 

[audreyh1]

Thanks for the clarification on the taxation of Dividends over Capital gains. It is important to remember after tax gains is what we get to put in our(wives) pockets.

VW

Most stock dividends are qualified and thus taxed at the same rate as capital gains in the US.

Bond dividends, REIT and a few others dividends are treated as ordinary income. But if you are buying stocks for dividend income, most of that should be qualified.

 

[audreyh1]

Personally, I would never dismiss or bad mouth "mental gymnastics". Investing isn't difficult, sticking to an investment plan is difficult. Do whatever works for you that gives you the best chance to achieve your goals.

Agreed!!

 

[thepalmersinking]

I don't pay any attention to dividends. I agree with @VanWinkel that it's more mental accounting rather than being substantively different. My interest and dividends are always reinvested. When I need some cash I just sell a few shares of something. These small transactions don't affect our AA. We look at AA once a year between Xmas and New Years, then make a trade or two if necessary.

I have this in my bookmark library: https://famafrench.dimensional.com/videos/homemade-dividends.aspx 6 minutes of Ken French on the subject. Maybe it will be useful to someone.

I don't know that it's mental accounting. If I have to sell stock to generate income and that stock has taken a 20% haircut, then You need to sell 20% more to get the same cash. That erodes future earnings since you have basically starting to eat the goose instead of simply letting the goose pop out a few golden eggs to spend.

 

[mathjak107]

that is false thinking .

in fact dividends are taxed more . if you get a 4% dividend you are taxed on that whole dividend .

if you rebalance a portfolio and take out the same dollars you are taxed only on the gain .

total return is what counts when drawing money out , not how much is dividend ,interest or appreciation .

the effect on the portfolio is the same .

a 4% dividend decreases the dollars compounding for you at the ring of the bell as all stocks are automatically adjusted downward . all market action is up or down on the value of your investment at the ring of the bell .

whether you have 4% less invested compounding via the dividend or the same dollars left from rebalancing and taking the same cash out the effect is the same