No I'm not asking you to divulge your body weight, although if that will help you with any weight loss goals you have feel free to do so. The weight I'm referring to has to do with your portfolio. I think we all understand the importance of diversification, especially for those looking to live off the dividends your portfolio churns out. You don't want to be left owning a few companies or a be highly concentrated in one segment of the economy as we all know how that worked out for those that were heavily invested in the finance sector during 2008/9.
Most dividend growth investors that I've spoken with agree on the importance of diversification and fall somewhere in between wanting to own 20-50 companies in their portfolio. I currently own 41 companies and I'm trying to really focus on building positions up rather than continually expanding into new positions. So when it comes to diversification you can either weight your portfolio based on capital value or on dividends paid. In a perfect world all companies would pay the same yield to make this a lot easier but we have to work with what's available. I created a chart showing the weighting of my taxable portfolio based on current capital value and on the dividends each position provides.
For the most part my portfolio is fairly balanced between a positions size and its corresponding dividend income. 32 of the 41 positions provide dividend income that is +/- 1% of its portfolio weighting and 24 of the positions are +/- 0.5%. The biggest outlier as far as portfolio weight being larger than dividend weight is my position in Visa (V). That's not a surprise at all because it's yield is much lower than the majority of my portfolio. The inverse relationship, portfolio weight being less than dividend weight, leader is Kinder Morgan (KMI) and that's because Kinder Morgan is currently my second largest position and also has a yield that is much higher than the average position in my portfolio.
Ultimately though it's the future growth of the company and the dividend that is the most important. Past results are not indicative of future returns. Each company is different and has a completely different risk profile. I wouldn't want to weigh a company like Coach (COH) or Darden Restaurants (DRI) on anywhere near the same level as I would a Johnson & Johnson (JNJ) or Procter & Gamble (PG). The safety and stability of the company completely different between those four. We will all need Band-Aids and laundry detergent but do we all need $500 purses or to eat out every week? I think it's pretty easy to tell which will be the most stable and consistent over the next 10-20 years.
I'd hate to be relying on my dividend income to pay for living expenses and then suffer a dividend cut from a position that is overweight on either metric. So I tend to have the majority of my portfolio with the same general yield/growth mix and then sprinkle in some high yield/low growth and low yield/high growth companies around the edges. So naturally the portfolio weights and income weights should be fairly consistent from position to position. The reason being is that with a fairly standardized yield and growth mix you can weather the storm of a dividend cut through growth from the rest of your positions and reallocating that capital. But if you suffer a cut from a very high yield position good luck replacing that lost income.
I'm not anywhere close to being finished building out my portfolio so there's still time to correct some of the imbalances through additional contributions. Ultimately I expect to own somewhere between 40-50 companies although I think 50 will be a pretty hard max. That should provide ample diversification and allow for relatively equal weighting along both the capital size and dividend income from each position, at least for the majority of my portfolio. Realistically though I'll probably be overweight the core positions and underweight the slightly riskier holdings when it comes time to call it quits from my day job.
So my question to you is how do you weight your portfolio? Based on dividend income or capital value?