Are you a bull or bear when it comes to dividend stocks?
For the past few years, it seems everyone loves dividend stocks. Dividend stocks and dividend mutual funds seem to be such a standard staple when it comes to investing and when you look at the past long term performance, one can argue the popularity is justified.
Reasons for dividend stocks
For the past 20 years, I have been a strong advocate of dividend stocks because they include some of the biggest, most stable companies. Companies that pay dividends mean they make profits and as a conservative investor, I have always been a believer that if you invest in a company, the safest thing to invest in is a company that has consistent profits. I consider dividend-paying stocks a core holding in an investment strategy I have preached for quite some time – CORE and EXPLORE.
I asked Dan Bortolotti, The Canadian Couch Potato about some of his favorite dividend investments and he referred me to this great article on Choosing a Dividend ETF.
Two reasons to be cautious
Despite the strong long-term track record of dividend-paying investments, there might be a couple of short term reasons for caution:
- The herd is big. I’ve always tended to be a bit of a contrarian. When everyone is interested in the same thing, it always concerns me. My research has always led me to believe that chasing performance is the worst investment strategy to practice. It’s easy for me to be contrarian on something cyclical like Gold which is a hot topic today but dividend stocks have been such a sound long-term investment that most people don’t look at it as a trend. The popularity still scares me and makes me wonder if dividend stocks are overvalued and a cycle is ready for change.
- Valuations. You can have a great investment but if the valuations are high, then you can still overpay for good investments. When there are more buyers than seller then the price tends to go up and this popularity can make good sound investments overvalued.
I’m not smart enough to predict the future of the markets. When everyone is strumming the same tune, I tend to be a little skeptical. This is a tough issue for me because history and fundamentals will suggest that dividend-paying stocks will always be good core holdings in a portfolio.
Long term, I will still bet on dividends as a solid core holding but in the short term, I wonder if it is a good time to take some profits off the table. It may be a good time to rebalance the portfolio especially for many buy and hold investors. I’ve seen a number of people where the dividend equity part of their portfolio has grown to be a large significant holding. Emotional thinking says to keep your winners and sell your losers. Logical thinking suggests that you do the opposite.
I can’t help but wonder if growth stocks will become the next trend again like it was in the 1990s? Some might argue that this trend has it already started with the emerging market rebound. I believe everything goes in cycles but when will those cycles happen is really tough to predict.
When predicting the future, I’ve been both right and wrong. I’d love to hear your thoughts about dividend investments and your successes and failures.
Comments
Normally I’m with you on the contrarian trades especially when a large crowd is involved. Not so much for dividend plays unless the Valuations are getting high. I think with divvy plays the valuations become the most important aspect, you never want to overpay.
Thanks for the comment … Do you think valuations are high today? Just curious
yes I think your correct on valuations of everything. I feel like the whole market will roll over here and have hedged myself for that. Clearing out strong stocks that i’ll look to buy back after a rest. I’m not certain we will roll and haven’t begun shorting but i’m getting prepared. Keep the blogs coming and thanks for asking!
In my mind dividend stocks are a core, longer term investment, so I don’t often think of them in bull-bear terms as much as other stocks. The points you made on the dividend stock frenzy at the moment and the resulting rise in valuations are really important.
There’s another factor, however, that I’ve been wondering about lately: With bond yields rising so quickly, will some dividend investors dump the stocks in favour of potentially higher yielding bonds? I guess it might depend on how permanent this move is perceived to be. It should also depend on the time horizon of the individual investor. 😉
Great article Jim!
It’s a good point that did not even cross my mid because I would rather hold Dividend stocks over bonds right now.
Interestingly, when reading material from Ed Rempel regarding the Smith Manoeuvre, he is adamant that non-dividend stocks will perform worse than “growth” stocks. Perhaps, if you’re “smart enough” to figure out the market and investing the Nth degree. Us? We prefer to go after well established companies where we understand their business and where we believe the company will be in business for decades to come.
I think that’s the perspective all investors need to take. Will the company make money over a long period of time. If so, then it’s a company worth investing in! Well said.
The key to buying dividend stocks (or any stock for that matter) is the entry point. True, some dividend stocks may be over valued…that’s why patience is a virtue of the dividend growth investor.
To me, taking profits now would completely defeat the purpose of my dividend growth investing strategy. My portfolio of dividend payers has given me 6 dividend increases this year, with more to come next year.
I couldn’t care less about the market price, as I don’t plan on selling ever. The only time I watch the market is to make my next purchase. In the meantime, stock prices may rise and fall next year, but my portfolio will pay me 6% in dividends.
Excellent point. Do you think valuations are high? If so, would you direct new money to growth stocks as a rebalancing mechanism?
Hi Jim, I don’t believe in rebalancing, chasing growth stocks or emerging markets. Dividend growth investing is proven to be one of the best (if not THE best) long term investing strategies.
I just stick to my strategy, add to my positions when new money becomes available and valuations are attractive, and watch my yield on cost alone out-performing the market.
I don’t feel that you can paint all dividend paying stocks with the same brush and say that valuations are high. SLF, for example, is one that I have my eye on at the moment.
If you are investing in divided stocks as a long term strategy, I don’t see how market noise matters or any need to go on a prediction spree.
I don’t disagree with you! I think, however, one of the dangers of buy and hold and never selling is complacency which might arguable be the biggest risk in investing. Thanks for the article idea … stay tuned!
A great way to determine the fair value of a dividend stock is to compare the current yield with the average yield over the last 5 years. If the current yield is higher then you can consider the stock undervalued (based on yield alone). It’s just one of many factors to consider when assessing the value of a dividend stock.
@dividend stocks
I would agree with that method of evaluating a dividend stock. Also look at P/E and Graham Number to hunt for value.
I have no problem with dividend investing, since it generally involves mature companies. However, I’ve never understood the concept that just because a company pays a dividend, it will continue to be profitable in the future.
Companies change, industries change – at the end of the day (or say in 20 years), you want to be invested in companies that make the most money. Dividends are not necessarily a predictor of the future.
@Mike
FTS increased their dividend today for the 38th year in a row. Past performance does guarantee future results, but that’s pretty consistent.
Meanwhile, what’s hot right now? Apple? Ok, everything they’ve touched has turned to gold lately but what happens if they strike out on their next project? Or what happens when the Lulu Lemon fad is over?
And you still have to sell the stock at some point in retirement and HOPE you’ve made money.
You can live off dividends from solid blue chip companies regardless of what the stock price is when you retire. Growth stocks don’t produce income.
But what if said company becomes less profitable and stops paying dividends?
You can live off of capital gains too, last time I checked. 🙂
What if said growth stock becomes out of fashion and you’re just about to retire?
Why eat into your capital when you can live off of your dividends, which grow every year?
True there is risk of dividends getting cut, but they are rare events.
And you still get capital gains too!
Exactly – that’s why I like index investing. I own growth stocks/dividend stocks and everything in between.
The other problem is currency risk – if your retirement portfolio is just Canadian stocks (of any type), then what happens if the Cdn dollar goes way down? Yes, you will still get the same income from your portfolio, but a lot of items (imported) will become a lot more expensive.
Your mention of CORE and EXPLORE reminded me of a strategy I read about in ‘You’re Fifty – Now What by Charles R. Schwab. According to him (p.18) ” Core & Explore is an asset allocation strategy for the stock part of your portfolio, and it means that you use broad based index funds …. to form the Core portion of your portfolio – and actively managed mutual funds … or individual stocks for the …. Explore portion in which you seek to maximize your upside potential”.
The book’s main precept is that the over 50 crowd should continue to invest for growth – from 60 to 80% of their portfolio should be stocks vs. fixed income investments.
Dividend paying stocks are a great implementation of Schwab’s advice.
I think it’s important to identify where the herd is coming from. In the case of dividends, the herd seems to come from fixed income investors looking for more I would say. It does bring the prices up so you need to track your purchase price.
I am foremost a dividend investor but if it’s time to get out and take some profits, I will do so. Many companies will perform differently at different time. I may sell one dividend investment for another dividend investment and in the process I took some profits and I buy another at good price.
I tend to let my utilities alone and I let them DRIP.
Thanks for everyone’s great comments. Lot’s a great dividend supporting investors with good strategies. I really enjoyed reading the comments!
I used to be a huge fan of dividend stocks but became disenchanted after a while especially with the kind of dividends i received (Indian Stock Markets) to be specific.
I think it has more to do with the idea of long term investing. Though considered the best way to play the stock market, the market dynamics have shifted a lot during the past few years making long term investing difficult. the phases in the market often erode all the gains in a 1-2 year cycle. I continue to invest in value based companies but have left the dividend aspirations. instead i set targets and exit the stock when it reaches the target. I may be sacrificing the dividends but now i atleast make a decent profit on most of the stocks