I don’t really care where the market is currently or where it’s headed as long as my dividends continue to be paid.
I often read this on blogs when the market is going sideways. When you think about it, I guess it can make sense.
First, dividend growth investing is for the long term. Then, you don’t need to worry about a bad month; a bad quarter or even a bad year; if you invest for the next 25 years, 12 months is nothing. When you select a solid company, you can sleep on it and wait for 10 years before looking at it again. Chances are you will have made money through this period with both the stock value appreciation and the dividend payment.
Second, dividend payments can continue during market volatility. One thing I like about dividend investing, and you will read this argument over and over again, is that you get paid to wait. While the market is down, you still receive your dividend payment (if the company doesn’t cut it obviously). It also helps to smooth out your overall return. For example, if the market is down by 10% and you receive a 4% dividend yield, your total return will only be -6%. On top of this, you will benefit from additional liquidity to invest in a down market, e.g. buy more shares at a cheaper price.
Third, dividend payments may even increase during bad markets. There are several “market warrior companies” increasing their dividend even when their stock price is down by 20%. One must understand that what happens to the value of a stock is not directly linked with its dividend policy. Most of the time, a stock price will drop simply following the overall market. For example, back in August-September 2015, most stocks saw their value going down by roughly 10%. Do all companies post negative sales and earnings growth during this short period? Far from it. The market might be worried about the overall perspective; it doesn’t restrain good companies from making money and to hike their dividend payments. This is what good companies do.
These are Really Good Reasons, but Beware of the Dividend Trap
The problem I see with many dividend growth investors is the fact they focus solely on their quarterly payments. As long as the dividend increases, they are happy campers. I strongly disagree with that (yeah… prepare your tomatoes, I’m ready! Hahaha!).
In order to illustrate my point, I’ll share with you 4 companies that are known for increasing their dividend on steady basis for at least 25 years. When you look at their dividend growth, all dividend investors would want to jump onto their boats:
But these companies have little to offer when you look at their stock price:
In order words; if you are content with the dividend growth, you are missing the real party.
I call this phenomenon of focusing solely on the dividend increase the “dividend trap”. Similar to the value trap, the dividend trap catches the investors’ attention with an attractive dividend (vs an attractive valuation in the case of the value trap). However, you don’t get much but the dividend when you buy such a company.
If you have made your research properly, you could have found better performing dividend growth stocks such as the following:
Or super powered dividend growth stocks such as:
You are right; I’m cherry picking here. It’s easy to pick up 12 stocks and divided them into three categories the way I did it. But my point is the following:
These 12 companies are all showing dividend growth payments, but selecting the wrong companies solely based on dividend payment makes you miss important opportunities. In other words; being content with dividend growth shouldn’t be enough.
How to Avoid the Dividend Trap
There isn’t a magic set of rules to avoid dividend traps. To be honest, I think I have one right now in my portfolio (Wal-Mart (WMT) anyone?). I guess the first key is not to be blinded by the dividend growth. It’s not because a company keeps increasing its distribution that automatically, it is a good company to buy. A company could be mediocre or have a mediocre future and decides to blind investors with its growing dividend.
A couple of years ago, I sold McDonald’s (MCD) for the very same reason: I am now convinced it will become a dividend trap. While it is part of the third group I presented in my chart above, the company’s best moments seem behind it. I might be wrong, but the company stock price hasn’t gone anywhere since 2012.
This leads me to the second key; making sure the company has a bright future. If you read this blog, you know I’m a big fan of Disney’s (DIS) business model. I think the company is well positioned to show further growth in the upcoming years. I’m not too sure this situation will happen with MCD. I’m not saying the company will go bankrupt or it is a bad investment either. My point is that I believe MCD will have a hard time finding a growth vector and will continue to hover in the stock market for several years. The dividend distribution will continue to increase, but the investor will be left with very little besides its dividend payment. Since there are tons of great companies paying dividends, I don’t get the point of bothering keeping companies that will fall in the dividend trap when you can pick stronger companies.
I recently made a list of 10 dividend growth stocks that will provide both stock value appreciation and dividend growth. You can download my free report here.
Disclaimer: I own shares of DIS, LMT, KO, WMT.
There are times that we dividend investors can be a little myopic. I try not to judge others, but shake my head when I see someone chasing an “accidental high yielder” (yield went up because price fell) with an unsustainable dividend. It’s great that the yield is say 8%, but what good is that 8% if the value of your investment falls 30%. This is why dividends are an important consideration for me, but a secondary one.
I also sold our position in McDonalds (which made my wife very happy, haha). I think the company has lost it’s way, and same stores sales were continually disappointing me. Additionally, where I live the company was cramming stores together so close that they are cannibalizing each others sales. Not good.
-Bryan
Hello Bryan,
I don’t judge other, but I’m trying to write an eye-opener article here. I agree with you; I high yield is surely fun, but I think buying a company paying a 2.5%-3% yield with a strong dividend growth potential is better than buying a 8% yielding stocks that will not increase its payment for the next 10 years.
I don’t believe in MCD changing toward a “real” restaurant now with table service… I’m really wondering where they want to go with that!
Cheers,
Mike
I read your article and see a few weaknesses:
1) You set up a straw man argument with the statement that dividend investors ONLY look at dividends, when you do not know that to be true or false
I do agree that some investors just focus on a high yield. But most dividend growth investors focus on more than just the dividend. At least most of those who have talked to me through my site do so.
2) You selected companies post mortem, and decide that those that rose in price are great, and the others not so. It would be interesting to see whether those companies continue do just grow in price for the next 5 years.
The issue with that line of thinking is that you are more likely to succumb to performance chasing. That is dangerous. A prime example is your sale of MCD before it went up by more than 20%. You then compounded your losses by buying a stock that went down by 50% (BDI.To).
Hello DGI,
I don’t assume about what investors think or do. I just say I’ve heard/read that before from many investors.
I mentioned I cherry picked all stocks mentioned in this article. I don’t pretend that I know 5 years ago that the last 4 companies would outperformed the others. Far from it.
My point is that if you blind yourself with the dividend payments, you might end-up with not much return… read negative results; that’s not a sound investing strategy.
I made a mistake with BDI as I though the oil price would bounce back. I’ve mentioned this when I wrote about BDI that is was a risky trade. When I sold MCD, it was because I didn’t believe in the company anymore. Buying BDI was to benefit from an opportunity in the market. Unfortunately, it didn’t turn out the way I thought. But that’s part of my investing strategy to have a core and a growth side. So far, I’m doing well even though I lost money on BDI.
However, I still don’t believe in MCD. Are you telling me MCD is 20% stronger than a year ago? I think this is speculation as the stock was trading at a PE ratio of 19 at the beginning of the year and now it is trading close to 24. I don’t see why MCD should trade at a 24 PE ratio.
I did a similar trade about 18 months ago selling CVX to buy more JNJ and AAPL. As you can see, you can’t win all the time, but I made more money with AAPL and JNJ than I lost with BDI 😉
Nice to finally see one of the dividend bloggers I follow not blindly jump on MCD or WMT just because the prices fell. I think those two have seen their best days and they are scary to take on now if interested in dividend growth
Hey Formul8or,
I felt I had to write this post because too many people only focus on their monthly cheques. I like the dividend payment too, but I ask for more to stay in the wagon as an investor.
I’m not totally convinced WMT is dead meat however. I’ll wait a bit in this case.
Cheers,
Mike.
Mike,
This is great information! I really like your perspective on selecting great growth companies with respectable yields.
Best,
Jim
Hello Jim,
thx for stopping by 🙂
Strong fundamentals are more important than dividend growth alone. It’s important that a combination of factors are joined together to become an attractive buy for my portfolio.
Cheers,
Mike.
Good post Mike. That’s why I had Tim Hortons for so many years, growth and a decent growing dividend. We lost a good one. Do you have a good replacement for Tims?
Hello Michel,
Good question! At the moment, I’m getting interested in Lassonde (LAS.A). The yield is low but the company seems to be able to pickup some interesting growth factors. If not, I also like CNR, not related to the food industry at all, but steady increasing dividend for sure 🙂
Cheers,
Mike.
Mike,
I totally agree that there is much more to consider as a DGI investor than just the yield. My husband and I began our DGI portfolio at the beginning of 2013 and I read a lot because business and investing were not my areas of expertise–I am a retired English professor–before deciding on some great Blue Chip stocks to invest in–PG, JNJ, GE, Duke, WEC, MMM, KMB, UL, T, VZ, CVX, COP to name some. I have been more than happy with a “safe” 4 to 5% yield. I have found Canadian banks and American utilities to be safe harbors and I have learned to check the credit rating before buying. I have also sold MCD and am contemplating selling WMT–not sure, yet. My husband, bless his dear soul, has chased yield and we are saddled with REITS, MLPs, and some other things that I am not happy about–but, he made most of the money involved–English professors don’t make nearly as much money as MBAs do!
Thanks for a good article! I am still learning, but I know enough already to be concerned with the price of my stock as well as its dividend growth!
Hello Zulalily,
I’ll be watching WMT carefully too. So far, I think it is a good entry point, but it may also become a dividend trap. I’m not just ready to pull out the trigger on this one.
I’m pretty sure you beat your husband’s investment return 😉 hahaha!
Enjoy your weekend,
Mike
As a conservative, retired 81 year old, I stay with quality and smart management. While I do own some individual stocks, I have focused on dividends with Schwab Dividend Equity ETF SCHD.
The fund market cap weights 100 high-yielding U.S. stocks with solid fundamentals and a consistent track record of paying dividends. While the resulting fund holds high-quality stocks with strong profitability, it should be paired with other funds for complete market coverage. The 0.07% expense ratio makes this the lowest-cost strategic-beta fund available and allows investors to keep a greater share of the fund’s returns.
“quality and smart management” Amen!
You can’t go wrong with that Ron!
Cheers,
Mike
Dividend Guy, I agree with much of your argument about quality dividend companies and yield. Did you have to “cherry pick” to make your point though? IMHO you lose some of your credibility by not being able to get your point across w/o “cherry picking”.
Hello Donald,
Thank you for your comment. I think my point was pretty clear without the stock picks, but I like to show clear pictures. There is nothing better than real world example to show how it can be hard to invest sometimes.
Cheers,
Mike
All you really need are a couple of iShares Core ETF’s in your portofolio : small cap, midcap, largecap and perhaps balanced then you can really sleep well at night. Stock picking is generally speaking a game of fools for non professionals like us.
I am one of those guys that say as long as the dividend gets paid I don’t care about the price but I don’t chase 8% dividend stocks I buy diversified ETFs IDV, div etc.,
Picking individual stocks isn’t for me. Oh and one more thought
Any graph comparison should be done at the total return level.
If you pick ETFs, you will not have a problem with yield or returns.
I couldn’t post total return using ycharts. However, all companies pay dividend, therefore, the difference would have been minimal between both graphs.
Cheers,
Mike
How about “As Long as I Get The Growing Dividend”…
If a company can afford to continue growing its dividend, I’m guessing a falling stock price has more to do with general market swings or other wider factors than the stock’s fundamentals.
Hello FerdiS,
It’s better, but I think there is something missing. Companies like BEN kept increasing their dividend. However, I’m not sure I would buy this company just because it’s part of the aristocrats list.
Thx for stopping by!
Mike
You are making the assumption that you can forecast the market on these companies. I would forecast, that if you look back in 5 years, that your selections were not as good as you thought at the time.
I buy for diversity within one of the Dividend Aristocrat or Value Lines list of companies who have paid dividends the past 50 years. While in retirement over the next 25 years , if I diversify, I should get 5-8 % dividend growth, on top of an average dividend of 2.5-3%. I am staying ahead of inflation, I am playing the market safely and I should be able to average the market growth over the long term with a dividend web site.
Sorry I disagree, but those are my thoughts on taking care of my wife and my family over the next 2-3 generations.