In the stock market’s run-up during 2013, investors started to focus in on rising prices as priority. In the first few weeks of 2014, with the S&P 500 down a bit more than 6 percent, investors are now focusing on declining prices and wondering if the good times are over. The short-term emotions of investing can swing quickly.
One thing we know a bit about at my firm is holding high quality businesses as owners, as opposed to trading stocks for short-term gains, which often turn out to be losses. When investing as an owner, several advantages are put on your side that I think are key to being a successful investor.
The advantage which I believe is the most important, but is not often talked about in our 24/7 world of short-term investment perspective, relates back to the true purpose of investing for most investors. We work to accumulate assets through our lives, then hope to have that pool of assets be sufficient so that it can then create income to support our needs when we don’t want to work any longer.
Many different types of investments can create income when we need to depend on our investment nest egg for our lifestyle. Bonds of various types are the usual go-to investment to produce a regular income stream with reasonable safety. Real estate investment trusts, master limited partnerships and preferred stocks can produce nice income streams, but can be as volatile as stocks, bringing the distraction of short-term price swings back into view.
I submit that perhaps the best income producing vehicle, given sufficient time is the one investors usually buy for other reasons. Common stocks which regularly and aggressively raise their dividend payment are the ultimate income generators. Really? Own common stocks that go up and down in value, sometimes dramatically, for income?
The answer is yes! For investors who can put themselves in the position or mindset of owning a company and for whom this portion of their portfolio can be left alone for 15 years or more, stocks may be the ultimate income choice. You can remove the worry about the inevitable ups and downs in short-term prices and focus on the growing income stream as an owner. Here’s why.
Let’s take a typical (hypothetical) company that pays a current dividend yield of 3 percent, and has a 30 year history of raising its dividend each year, through the good times and bad at an average rate of 10 percent per year. This company is a bit above the S&P 500’s long term dividend increase rate of about 6 percent annualized, but is certainly not the fastest dividend enhancer out there.
The income from this company will double approximately every seven years, assuming it keeps up the annual boosts to the dividend at a 10 percent annualized rate. This can’t be guaranteed, but is easy to follow to make sure the company keeps moving in the right direction. So, based on your original investment in our hypothetical company, your yield will be about 6 percent in seven years, and 12 percent in 14 to 15 years. A portfolio of these types of companies can be quite powerful at producing a rising income stream.
Buying a 15-year corporate bond from the same hypothetical company would probably yield income of around 4 to 5 percent of the amount invested, and that’s the same rate you would receive in the 15th year of owning the bond, well behind the 12 percent yield of owning the stock of the hypothetical company in our example. Don’t you think that with the dividend rising 300 percent over 15 years that the stock prices would also appreciate?
Why is my reference to 15 years so important? There haven’t been any 15-year periods where stock prices haven’t at least broken even and that you wouldn’t have had a positive return when factoring in the rising dividend income. The average for stock price returns across all rolling 15-year periods is 8 percent. Add to that the rising dividend income and you have some attractive returns, all while focusing on getting more money to spend each year than the year before.
Investing in rising dividend companies is a great solution to increase income through retirement and have appreciation in value to fund your other goals.
Tom Breiter is president of Breiter Capital Management, Inc., an Anna Maria based investment advisor. He can be reached at 778-1900. Some of the investment concepts highlighted in this column may carry the risk of loss of principal, and investors should determine appropriateness for their personal situation before investing. Visit www.breitercapital.com.