I love our dividend stock portfolio! Our dividend income is my favorite form of passive income because it is very passive. I don’t have to do much and the dividends will keep rolling in. I like having rental properties, too, but they are just more work. 2016 was another great year on the stock market and our dividend portfolio did very well. Our portfolio gained 12.4% for the year and we beat our benchmark, Vanguard’s VIG, by 0.5%. VIG did really well, too. The rising tide lifted all boats and it made all investors look like geniuses. Our dividend income fell a bit short of our goal, though. We received $11,232 which didn’t quite meet our goal of $11,500. The shortfall was mostly due to my hesitation to buy more stocks while the stock market was so high. For 2017, I’m going to reinvest faster and I’m not planning to hold much in the money market account. Today, we’ll go over how to start investing in dividend stocks, then we’ll share our 2017 dividend portfolio with you.
Why invest in dividend stocks?
Why should you invest in dividend stocks at all? Wouldn’t it be better to focus on growth instead of dividend? Well, focusing on growth never worked that well for me. It is difficult to predict which companies will keep growing. Growth stocks are expensive and if the company couldn’t fulfill its promises, your investment won’t do well. It’s stressful for me to keep checking the stock price every day. Also, I tend to sell too early when investing in growth stocks. I had Amazon, Netflix, and a number of other growth stocks. When they did well, I usually sold. I think investing in dividend stocks suits my temperament better. However, if you enjoy frequent tinkering with your stock portfolio, then a dividend portfolio might be too boring for you.
Here are the reasons why I like investing in dividend stocks.
- Less volatility – Solid dividend stocks are more stable than growth stocks. Their stock prices don’t bounce around as much.
- Predictable income – Dividend income is a relatively stable source of income. This is good when you’re retired. Dividend income is also taxed at lower rate than your active income. We didn’t have to pay any tax on our dividend income in 2015. I’m not sure about 2016 yet.
- Long term investing – It’s easier to invest for the long term with dividend stocks. I don’t have to worry as much about how the stock will do in the future because these are solid companies. Our portfolio doesn’t churn much now.
All in all, dividend investing is less stressful and it should hold up better through a bear market. Dividend investing is like the turtle. It will keep chugging along slowly, but surely. This works well for us.
*Note – We invest in dividend stock with our taxable brokerage accounts. All of the money in our retirement accounts are invested in low cost index funds.
The Dividend Growth Strategy
The main strategy for our dividend portfolio is to invest in solid companies with good track records of raising their dividend. This way, our dividend income will grow every year even if we can’t add new money. We have been doing pretty well so far since we started following this strategy.
Prior to 2012, I didn’t really have a strategy. Most of the investment in our taxable account was in my old company stock and whatever stocks sounded good at the time. Switching to the dividend growth strategy made investing much less stressful and the income will come in very handy when Mrs. RB40 finally retires.
Here is our dividend income record since 2012.
- 2012: $6,791
- 2013: $8,036
- 2014: $8,759
- 2015: $10,695
- 2016: $11,232
- 2017: projected $11,300
Actually, our 2017 dividend income should be a little higher than projected and hopefully surpass $11,500. The great thing about the dividend growth strategy is that our dividend income should increase every year. This is due to three factors.
- Reinvested Dividend– I reinvest most of our dividend income in new stocks. This will increase our total shares and dividend income.
- Dividend Growth– Most of the companies in our portfolio should increase their dividend payout every year. There will be some exceptions as some companies face problems. Last year KMI and Diebold cut their dividend. Mattel, Caterpillar, and John Deer did not increase their dividend in 2016. We’ll keep a close eye on these companies to see if we need to kick them out of our portfolio. Other than these, all our stocks increased their dividend a little bit.
- New Investment– We plan to add new money to our dividend portfolio whenever we have extra savings. This will also increase our total shares. In 2017, I plan to reinvest whenever we can. Last year, I held off too long on reinvesting and I didn’t like sitting on the sideline.
How to Start Investing in Dividend Stocks
It can be a little intimidating to start investing in dividend stocks. There are thousands of companies that you can invest in. How do you know which stock is good? If you’re just starting with dividend investing, here is a basic guide to get you started with a few solid companies. Don’t be intimated by the jargon, I will explain them below. I’ll also show you where to look up the data.
- Start with Dividend Aristocrats
- PE ratio is less than 20
- Dividend yield is more than 2.5%
- Payout ratio is less than 70%
- EPS for the next and past 5 years should be positive
Start with the Dividend Aristocrats
The Dividend Aristocrats are stocks in the S&P 500 index that have increased their dividend payout for 25 consecutive years. These companies are committed to their dividend and we shouldn’t see a lot of dividend cut. Recently, the Dividend Aristocrats have done very well compared to the S&P 500 index. Many investors are looking for income and they have been buying dividend stocks.
The Dividend Aristocrats list is updated every year. Companies are kicked out if they cut dividend and some companies are added as they satisfied the 25 consecutive years of dividend raises. When you’re start building a dividend portfolio, it’s best to stay conservative and go with these solid companies. Once you’re more familiar with dividend investing, then you can branch out and buy more adventurous stocks.
Here is the list of Dividend Aristocrats in 2017. (The data here is from the beginning of January, 2017.)
|Name||Ticker||Price||P/E Ratio||Dividend Yield||Payout |
|CARDINAL HEALTH INC||CAH||$72||13.8||2.5%||35%|
|FRANKLIN RESOURCES INC||BEN||$40||13.5||2.0%||27%|
|T. ROWE PRICE GROUP INC||TROW||$75||15.5||2.9%||45%|
|LOWE'S COS INC||LOW||$71||20.4||2.0%||40%|
|W W GRAINGER INC||GWW||$232||20.0||2.1%||42%|
|HORMEL FOODS CORP||HRL||$35||22.3||2.0%||44%|
|WALGREENS BOOTS ALLIANCE||WBA||$83||18.0||1.8%||33%|
|JOHNSON & JOHNSON||JNJ||$115||17.6||2.8%||49%|
|AIR PRODUCTS AND CHEMICALS||APD||$144||19.1||2.4%||46%|
|PPG INDUSTRIES INC||PPG||$95||15.9||1.7%||27%|
|PROCTER & GAMBLE CO||PG||$84||22.6||3.2%||72%|
|EMERSON ELECTRIC CO||EMR||$56||18.7||3.4%||64%|
|BECTON DICKINSON AND CO||BDX||$166||19.2||1.8%||34%|
|WAL-MART STORES INC||WMT||$69||15.3||2.9%||44%|
|LEGGETT & PLATT INC||LEG||$49||18.8||2.8%||52%|
|ILLINOIS TOOL WORKS INC||ITW||$122||22.3||2.1%||47%|
|STANLEY BLACK & DECKER INC||SWK||$115||17.4||2.0%||35%|
|GENUINE PARTS CO||GPC||$96||20.6||2.8%||57%|
|ARCHER DANIELS MIDLAND CO||ADM||$46||22.5||2.6%||59%|
|AUTOMATIC DATA PROCESSING||ADP||$103||29.9||2.2%||66%|
|C R BARD INC||BCR||$225||22.6||0.5%||10%|
|MCCORMICK & CO INC||MKC||$93||25.2||2.0%||51%|
|CINCINNATI FINANCIAL CORP||CINF||$76||19.5||2.5%||49%|
|EXXON MOBIL CORP||XOM||$90||42.2||3.3%||140%|
|CONSOLIDATED EDISON INC||ED||$74||18.9||3.6%||69%|
PE Ratio is less than 20
The PE (price to earnings) ratio is the price of the stock divided by their earnings. The bigger the PE ratio is, the more highly valued the stock. For example, Facebook’s PE ratio is 60. This is fine for growth stocks because their earnings are growing rapidly. For dividend stocks, the PE ratio should be closer to their historical average because they only grow a little bit every year.
- P/E ratio = Stock Price/Earnings
You can get the Price/Earnings ratio from finviz, Morningstar, Yahoo Finance, and many other financial sites. We’ll look at Target (TGT) at finviz for example.
Currently, Target’s PE ratio is 11.8. That means the stock is a pretty good bargain at this time. Target is being valued at a discount due to the shift to e-commerce. Many retailers are hurting right now.
Anyway, the PE ratio for the S&P 500 is quite high (around 25) at this time and I prefer to invest when a stock is undervalued. We’ll only invest in companies with a PE ratio of less than 20.
Dividend yield is more than 2.5%
Now, let’s look at dividend. Dividend yield is the percentage of dividend payout to the stock’s price.
- Dividend Yield = Dividend/stock price
Target’s dividend yield is currently 3.7%. When the dividend yield is low, it can mean a couple of things. The stock price could be too high or perhaps they haven’t raise dividend recently. I usually invest in stock with at least 2.5% dividend yield.
Also, we should be cautious if the dividend yield is too high. 3.7% is pretty high for Target and it means investors think the stock price won’t increase much in the years to come. As e-commerce continues to grow, Target might not be able to adapt and their earnings could drop. Things are changing in the retail world.
Payout ratio is less than 70%
The payout ratio is the percentage of earnings paid out as dividends.
- Payout ratio – dividend/earnings per share
Generally, we should avoid investing in companies that pay out too much dividend. If a company pays too much dividend then they won’t have much money left to invest in the company. Also, they might not be able to keep increasing the dividend if they are already paying out a huge percentage. Target’s payout ratio is currently around 41%. That’s pretty good.
EPS for the past and next 5 years should be positive
EPS is earnings per share. This should be positive for the past 5 years and next 5 years. This shows that the company is still growing. If we see a negative number here, it means the company is not growing. (The EPS next 5Y is an estimate.)
Those are the baseline criteria you should look at when you’re investing in dividend stocks. If you are interested and have extra time, you probably should check these other things, too.
- Sales growth – Is the company’s revenue growing? Target’s revenue is down like most retailers and this is causing the stock price to drop recently.
- Management team – Is the management team stable?
- Stability – Check the Beta. It should be 1 or less. If it’s higher than 1, then the stock has been volatile and probably not a stable dividend pick. (reader’s suggestion)
Our Dividend Portfolio
Here is our current dividend portfolio. You can see there are quite a few Dividend Aristocrats here.
|Stock||shares||price 1/1/18||2018 YTD Income|
|Leggett & Platt||500||47.73||0|
|Procter & Gamble||100||91.88||0|
|Kinder Morgan I||100||18.07||0|
|National Retail Property||200||43.13||0|
|Deere & Co.||100||156.51||0|
|RB40 Dividend Portfolio||0|
I’m generally happy with the portfolio as it is. I’ll keep an eye on Diebold and Kinder Morgan. If condition deteriorates, then I might need to sell them.
When to sell?
Selling is actually the biggest issue for me now. I prefer to just hold because I don’t like selling. Some dividend investors sell as soon as there is a dividend cut or no dividend growth. This probably is a good idea. I probably need to do a detailed review twice per year to make sure all the stocks in our portfolio still satisfy the basic criteria.
I’ll use VIG (Vanguard’s Dividend Appreciation ETF) as a benchmark for our portfolio. We’ve been able to beat them over the last 2 years. If we can’t beat VIG, then it’s probably easier to just go with them instead of managing a dividend portfolio. That’s a pretty good alternative for new dividend investors too. You could go with VIG and SDY (SPDR S&P Dividend ETF) instead of managing your own portfolio.
I plan to update how our dividend portfolio monthly in this post – See How We’ll Generate Passive Income in 2017. There you can also see other ways that we generate passive income and how close Mrs. RB40 is to her retirement.
Track your Dividend Income
Lastly, here is a way to easily track your dividend income – sign up for Personal Capital. Personal Capital is a great free site for investors. They have many tools that can help you keep track of your investments including the 401k Fee Analyzer and the Retirement Planner. I log on to Personal Capital almost every day and they have been extremely useful. (This is an affiliate link and we may receive a referral fee if you use this link to sign up with them.)
Okay, that’s how to start investing in dividend stocks. If you’re a dividend stock investor, do you have other criteria on your list? When do you sell your dividend stocks?
You can see how we’re doing with dividend stocks at my Passive Income page.
- dividata – You can check dividend history and their dividend ratings here.
- Morningstar – A lot of financial info here.
- finviz – More numbers.
- David Van Knapp’s articles at Seeking Alpha. Learn more about Dividend Growth Investing.
Joe left his engineering career behind to become a stay-at-home dad/blogger at 38. Today, he blogs about financial independence, early retirement, investing, and living a frugal lifestyle. See how he generates Passive Income here.
Joe highly recommends Personal Capital for DIY investors. He logs on to Personal Capital almost daily to check his cash flow and net worth. They have many useful tools that will help DIY investors analyze their portfolio and plan for retirement.