Dividends! Myth?

[jIMOh]

I need a serious logic check on my thinking. Thanks.

I flirted with a portfolio of 90% "high dividend yielding stocks. It seemed reasonable but I heard a comment today by Suze Orman on Today. She told a caller roughly, "right now CDs, treasuries, etc are so low in yield that a good dividend stock is a better choice for income production. Because, no matter what happens to the stock price you still get the dividend."

OK, yes, she is not a Bogle. But that attitude seems prevalent.

But doesn't investing in a dividend payer have additional risks.
1. Risk to NAV
2. Risk to reduction of dividend payout.
3. ** And if the NAV decreases then the yield "seems" to be "hhigh" but it needs to be factored by the reduction in NAV

Example
$100 initial value in VWxx yiedling 4.0% should produce $4.00 per year
But if the NAV drops by 20% then the $80 current value produces only $3.20.

So the dividend sounds great when advertised as 4% but it could be "net" 3.2%.

Would appreciate any comments that clear me up on this seeming contradiction to buying dividend stocks.

Dividends tend to stay fixed. if a company promises a $4 per year dividend, they don't eliminate or cut it when the stock price drops. They continue to pay the $4 dividend.

Many posters here are retired and living off dividends only. Others here use a yield for a portion of their income in retirement. When using yield, NAV is less of a concern, assuming income remains constant.

The primary risk an investor has with dividends is the company lowering their payout. This does happen- companies like Dana and Xerox had high dividends in early 90's only to cut them when times went bad.

I am constructing my dividend portfolio now. Here is my strategy:

10 of holdings will be 25% of income. These 10 holdings will be large companies with a good history of payouts. PG, MO for example.

25% of income will come from utility and financial stocks. Plan is to hold close to 20 stocks in this position. These are smaller companies, so I want more holdings to reduce risk.

25% of income will come from small and mid cap stocks which pay a dividend. This portion has high risk associated with it. My plan is to hold 20-40 stocks in this position. All pay a dividend, but the yield will be lower than above. The hope is the NAV (principal) of this position grows enough where I can sell the stocks and reinvest it.

25% of income will come from REITs. The yield here is high. 10 holdings will be enough, I think.

The goal of this whole portfolio is to pay for most household expenses (bills) in retirement. Because things like electirc, gas and water go up in cost over time, it makes sense to map this portion of expenses to dividends, which also increase over time.

 

[RunningBum]

I was getting the impression, probably incorrect, that you were saying that Wellesley was primarily dividend paying stocks.

Wellesley has always taken a value tilt through its focus on higher dividend stocks

and you talk about it's

high dividend strategy

without mentioning that they only do this with a minority of their holdings.

Without knowing too much about Wellesley, and thinking it may be very heavily invested in dividend paying stocks, I see that it is barely over 1/3 stocks, by design as REWahoo pointed out.

I'm wondering if there are funds with a strong majority of holdings in dividend stocks. I suppose value funds are the closest? And Wellesley at 35-40% may be up there?

 

[kcowan]

There's a guy in Canada by the name of Derek Foster who retired at 34 relying on dividends to fund his early retirement. He's been retired four years now and has published two books on the matter.

Foster did not retire. He just switched from working 40 hours a week to hawking his books for a profit. Why would anyone who was retired work so hard at writing and promoting his books?

(ISTR the tax free income is more like $30k or $2.5k per month. Depends on what other deductions you can claim. How much principal must you have to have to get $30k per year in dividends? Reading books from gurus can be dangerous to your financial health.)

 

[jIMOh]

I'm wondering if there are funds with a strong majority of holdings in dividend stocks. I suppose value funds are the closest? And Wellesley at 35-40% may be up there?

I own PRFDX (T Rowe Price Equity Income).

For more dividends, try Alpine Dynamic Dividend -ADVDX

 

[haha]

Foster did not retire. He just switched from working 40 hours a week to hawking his books for a profit. Why would anyone who was retired work so hard at writing and promoting his books?
)

More sex?

Ha

 

[ats5g]

I was getting the impression, probably incorrect, that you were saying that Wellesley was primarily dividend paying stocks.

and you talk about it's without mentioning that they only do this with a minority of their holdings.

Without knowing too much about Wellesley, and thinking it may be very heavily invested in dividend paying stocks, I see that it is barely over 1/3 stocks, by design as REWahoo pointed out.

I'm wondering if there are funds with a strong majority of holdings in dividend stocks. I suppose value funds are the closest? And Wellesley at 35-40% may be up there?

Sorry, I was just trying to make the point that there was nothing really special about high dividend stocks over just value stocks, and was using Wellesley as an example. Vanguard also has two funds focused on high(er) dividend stocks, Equity Income Fund (VEIPX) and High Dividend Yield Index fund (VHDYX). There are also numerous ETFs like SDY and DVY, though many of them seem to be more concentrated in certain sectors than others.

- Alec

 

[FinanceDude]

I am not a big fan of bonds. I'll just keep plodding along with my MO, PG, BP, etc.

 

[Zathras]

...a dividend has a potential for two sources of volatility (stock price and dividend slashing).

Dividends really are not affected directly by the stock price. A crash in the stock price MAY lead to dividend slashing, but not always (depends how big the crash is I suppose).
A company does pay you 2% of it's stock price, it pays you a set dollar amount per share you own. The dividend yield you see is what that percentage is for that particular time.
So if I get $1 a share and own 1000 shares. I get $1000 regardless of the stock being priced at $45/share or $55/share.

This is why many people say it gives a more stable flow of income. The ups and downs really don't affect them unless they get to a very large level (e.g. financials right now are starting to adjust).

 

[haha]

This is why many people say it gives a more stable flow of income.

And it's not just that people say this; it is an historical fact.

Ha

 

[mathjak107]

Dividends really are not affected directly by the stock price. A crash in the stock price MAY lead to dividend slashing, but not always (depends how big the crash is I suppose).
A company does pay you 2% of it's stock price, it pays you a set dollar amount per share you own. The dividend yield you see is what that percentage is for that particular time.
So if I get $1 a share and own 1000 shares. I get $1000 regardless of the stock being priced at $45/share or $55/share.

This is why many people say it gives a more stable flow of income. The ups and downs really don't affect them unless they get to a very large level (e.g. financials right now are starting to adjust).

if anyone thinks its all about dividend income ill be more than happy to pay anyone an 8% dividend , say for the next 5 years. only i keep the principal

 

[Zathras]

if anyone thinks its all about dividend income ill be more than happy to pay anyone an 8% dividend , say for the next 5 years. only i keep the principal

That would be silly.
I would rather have both the dividend and keep the principal

 

[mathjak107]

exactly, but lots of people get so wrapped up in this dividend thing they forget its all about total return

 

[haha]

exactly, but lots of people get so wrapped up in this dividend thing they forget its all about total return

How do you know this? Because I think it is quite a bit easier to set up a secure and moderately growing dividend stream than to guarantee that you won't get caught in the reverse cost averaging of living off "total return" if the returns lag inflation for a good while.

The last big long mess was the early and mid seventies. Dividends climbed smartly all through that, yet stock index quotes were down 40% or worse depending on thet index, and stayed down for a good while.

Ha

 

[mathjak107]

thats why i myself use a bucket system . probley never a chance of ever selling stocks in a down year

 

[mathjak107]

How do you know this? Because I think it is quite a bit easier to set up a secure and moderately growing dividend stream than to guarantee that you won't get caught in the reverse cost averaging of living off "total return" if the returns lag inflation for a good while.

The last big long mess was the early and mid seventies. Dividends climbed smartly all through that, yet stock index quotes were down 40% or worse depending on thet index, and stayed down for a good while.

Ha

a nice holding of cd's in those years beat all

 

[TBPu]

Zathhras, you hit the nail on the head. If the fixed amt per share looks good percentage-wise at say 5% then it will look like the best stock in the world if NAV drops by 50%, suddenly that is a 10% dividend yielder, a star. Something just seems "not koshher" about a stock that shines when it's NAV falls.

Dividends seems like an advertising ploy. Like a glow in the dark key chain sealing the deal on a $2mil home sale. Well, maybe not that bad.

And kcowan, I have dividend "hawks" flapping around me in the form of advisers and I am trying to resist the pressure by getting the details. But my gut feel is what you say, if I can't live with less income should they slash dividends, then the only solution that is avaiable it to have more principle than I need.

But it is plainer than clear water, if you consider a dividend payer to be a fool proof source of steady income. Get glasses. And it's really surprising to hear someone say buy something that has a history of paying large and increasing dividends. Hmmmmm, would those same people have had that level of confidence (circa 200) in the "past performance" of dot.com stocks.

jiMoh, that is an interesting strategy and I plan to give it a look myself and maybe back test it for 10 years. Thanks.

 

[haha]

Hmmmmm, would those same people have had that level of confidence (circa 200) in the "past performance" of dot.com stocks. .

This is possibly the strangest analogy that you could have picked. Certainly valid criticisms of a dividend strategy exist, but this is not one of them.

 

[TBPu]

Haha, it is common to read that a selection of a stock that yields dividends should be based on it historical record of paying a high dividend and better yet a record of growing that dividend amount.

Is that a fair assessment? If so, that is similar (in my mind) to saying look at the past performance,,,blah, blah, blahh.

Any clarification of your negative feeling on my comment is apreciated.

 

[haha]

Haha, it is common to read that a selection of a stock that yields dividends should be based on it historical record of paying a high dividend and better yet a record of growing that dividend amount.

Is that a fair assessment? If so, that is similar (in my mind) to saying look at the past performance,,,blah, blah, blahh.

Any clarification of your negative feeling on my comment is apreciated.

Well, assuming that you are serious... I could say a few things about the comparison of stocks with a long history of paying and increasing dividends and the dot.bomb stock mania. There are huge differences between these groups.

One difference is embedded in the sentence you used: “History”. There was no history of even earnings in most of the dot.com stocks, no free cash flow- mostly eyeballs and burn rate. Some are likely viable businesses, but the % of survivors in miniscule.

On the other hand, to regularly pay and annually increase dividends over 10, 20, even 50 years is an accomplishment that argues strongly for a quality franchise with good margins and a culture that propagates itself- else they would not be able to do this.

But history can’t be the endpoint of your research. More a starting point to get candidates for greater study.

In particular, you need to satisfy yourself that the past success is highly likely to continue.

In short, this is not a no-brainer strategy for people without the time, or skill, or inclination to do the work. Over 70 years ago Ben Graham classified investors as enterprising, or other. Dividend strategies are more suitable for enterprising investors, who nevertheless may be on the conservative side.

Ha

 

[megacorp-firee]

Dividends tend to stay fixed. if a company promises a $4 per year dividend, they don't eliminate or cut it when the stock price drops. They continue to pay the $4 dividend.

Many posters here are retired and living off dividends only. Others here use a yield for a portion of their income in retirement. When using yield, NAV is less of a concern, assuming income remains constant.

The primary risk an investor has with dividends is the company lowering their payout. This does happen- companies like Dana and Xerox had high dividends in early 90's only to cut them when times went bad.

I am constructing my dividend portfolio now. Here is my strategy:

10 of holdings will be 25% of income. These 10 holdings will be large companies with a good history of payouts. PG, MO for example.

25% of income will come from utility and financial stocks. Plan is to hold close to 20 stocks in this position. These are smaller companies, so I want more holdings to reduce risk.

25% of income will come from small and mid cap stocks which pay a dividend. This portion has high risk associated with it. My plan is to hold 20-40 stocks in this position. All pay a dividend, but the yield will be lower than above. The hope is the NAV (principal) of this position grows enough where I can sell the stocks and reinvest it.

25% of income will come from REITs. The yield here is high. 10 holdings will be enough, I think.

The goal of this whole portfolio is to pay for most household expenses (bills) in retirement. Because things like electirc, gas and water go up in cost over time, it makes sense to map this portion of expenses to dividends, which also increase over time.

Interesting plan. If I read this correctly, you will be holding upwards of 70 stocks. You, in essence will be trading your j*b for full time portfolio management. That's ok if that is your hobby/passion. But it can get rather tedious if it is not something that you want to spend all of your waking hours doing. Just an observation.

 

[megacorp-firee]

More sex?

Ha

? how does that get you more sex? uh ... just asking, ... as I'm always looking for ways to mmmm maximize my uh ... activity

 

[Dawg52]

Interesting plan. If I read this correctly, you will be holding upwards of 70 stocks. You, in essence will be trading your j*b for full time portfolio management. That's ok if that is your hobby/passion. But it can get rather tedious if it is not something that you want to spend all of your waking hours doing. Just an observation.

That does seem like a lot of work. WORK? Did I say WORK? Time to go bite down on a bar of soap.

I like dividends too. I just do it using DVY, PID, a reit fund, and about a 1/2 dozen stocks. Easier to manage.

 

[Zathras]

it is common to read that a selection of a stock that yields dividends should be based on it historical record of paying a high dividend and better yet a record of growing that dividend amount.

Not in my experience. I have rarely read anything stating the above unless it also mentioned other things to base your decision on. As Ha indicated, it is a good STARTING point, but certainly not the end of needed research.

Typically dividend paying stocks that have a long history of increasing the dividend year over year are well run companies. As Ha said, they couldn't afford to if they weren't.

If the fixed amt per share looks good percentage-wise at say 5% then it will look like the best stock in the world if NAV drops by 50%, suddenly that is a 10% dividend yielder, a star.

Only to someone that knows nothing about investing in stocks. This would be like saying a company is a star because it made a lot of money on Tuesday. You need to look into many other aspects of the business, not base it solely on dividend rate. Just as you wouldn't base an investment decision solely on P/E ratio.

 

[clifp]

Ha Ha is exactly right "History" is what seperates internet stocks (and frankly many growth stocks) from most dividend stocks.

Take a bank I recently purchased BB&T founded in 1872. It has been paying dividends since 1904 and for the last 36 years has increased dividends each year. It cut dividends once in 1933 by a penny, now that is history.

This dependablity has a downside, there is for instance no way that BB&T after 135 years is going to be the next Google. Finding a 10-20 bagger in 10 year period is great way to accelerate your ER and investing in boring dividend stock pretty much elminates that potential.

There are also clearly some risk, the subprime meltdown maybe the extinction meteor who's impact result in a massive wave of bankruptcy of banks and financial companies.
In such environment the chances of a dividend boost aren't great, a dividend cut seems possible, and a dividend suspension concievable but unlikely. I guess I have to believe future career prospects for CEO who stops paying dividends for the first time in more than century looks really grim. (Unless it is a turn around specialist). My best guess is BB&T will muddle through this crisis like it did the panic of 1873, the great depression, the S&L crisises in the 70s and bunch of other lesser headline events.

Perhaps it will grow stronger, I hope so, but even if just keeps paying its dividend I'll be content.

 

[Hamlet]

I suspect that he's counting on the diversification to cover for a lack of active management. He could use a policy of only looking at a stock if it actually cut its dividend and the portfolio would probably work fine, as long as he chose decently initially.

Really, at 70 names, you could think of it as its own high-yield index. He would typically have to make a few adjustments a year. A dividend cut, or an aquisition could be the only criteria he'd need to use.

Interesting plan. If I read this correctly, you will be holding upwards of 70 stocks. You, in essence will be trading your j*b for full time portfolio management. That's ok if that is your hobby/passion. But it can get rather tedious if it is not something that you want to spend all of your waking hours doing. Just an observation.