Top 5 Rules of Dividend Investing
The following is a guest post from Dividend Appreciation. Dividend Appreciation is a site dedicated to providing readers a clear path to a financially secure future with dividend paying stocks.
If you’re going to invest in dividend-paying stocks and create a portfolio, you’ll need a system. Discipline is often what sets apart investment performance over the long term. So, here are the five rules you must absolutely adhere to if you want to create a rock-solid portfolio:
The stock market is filled with companies in all sorts of industries. It’s a universe of thousands of companies from across the world. Some of these companies are absolute gems. They have a proven track record of success and have the ability to keep growing relentlessly over the foreseeable future. When companies like these are available there’s absolutely no excuse to go for mediocrity. Don’t go for the micro-cap companies with the risky business models or the REITs that borrow way too much to create a whopping dividend. There’s simply no way to tell if these companies will survive long enough to reward you for your investment. It’s important, therefore, to look for quality and stick with it. Quality companies, like the ones that make it onto the Dividend Aristocrats Index list, have the ability to withstand market turmoil and consistently compound wealth for investors over time.
It doesn’t matter how great the company is if you pay the wrong price for it. Professional investors abide by Warren Buffett’s motto - price is what you pay, value is what you get. While investing you have to aim to pay less than the value of the stock. Buying at the right price is crucial for success. If you can’t get a bargain on an excellent stock it’s best to wait till the price falls to a more reasonable level. If the price fails to offer a bargain, don’t invest. The long-term performance of your portfolio is closely linked to the value you extract from each investment. There’s empirical evidence to suggest that simply buying cheap stocks was enough to ensure your portfolio outperformed the broader market. You wouldn’t need to time the market if you simply waited to buy stocks when they were cheap.
Another advantage of buying stocks when they’re cheap is the effect it has on the dividend yield. Buying a stock when the price is low locks in a higher dividend yield on the nominal amount you invest.
Ben Graham built an entire career and laid the foundation for Warren Buffett’s success on the theory of margin of safety. Basically, professional investors like Buffett and Graham like to play it safe. They leave a margin for the ‘unknown’ and are somewhat pessimistic while calculating intrinsic value. In fact, Graham would describe his investment strategy as a hunt for business that are worth more dead than alive. Being safe with the sort of companies you pick, the price you pay, and the business models you prefer is the key to long-term success on the market. In other words, it’s far important not to lose money than to make money in the market.
Growth is more than simply a nice-to-have. It’s an absolute necessity. Your wealth is gradually eroded by inflation and you need your investments to grow simply to retain purchasing power. Invest in businesses that pay a generous dividend but also hold back enough cash to grow at a good pace. The more the business grow the more profitable your overall investment. Also, keep a track of growing dividends. Some companies gradually grow dividends as their earning power increases. Check the Rising Dividends Fund, and Oppenheimer for such stocks.
Discipline is perhaps the defining feature of the intelligent investment strategy. If you want dividend investing to help you create wealth, you need to stick with a few good dividend payers over the long-term. Short term market volatility shouldn’t put you off track. You should also aim to invest in low volatility companies that have resilience rather than big promises. A study found that the S&P low volatility stocks outperformed the general S&P 500 index by 2% compounded annually. When the market gyrates violently (which it often will), keep your thinking cap on and aim to buy stocks when they’re cheap. When the company’s underlying fundamentals change, have the courage to sell. When the market overvaluing your stock by a wide margin, sell instantly.
John Templeton, a legendary investor, once said that the only people who don’t need to diversify are the ones who are right 100% of the time. Don’t leave all your income-generating eggs in one basket. Pick and choose a few different sectors and spread your wealth out amongst them. A rock-solid portfolio should have no more than one-fourth of assets invested into a single stock.
These five simple rules could help you create a healthy, growing dividend portfolio over time.