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August 5, 2014

 

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John R. Deitrick, CFP� 
         
Featured Question of the Week...
What's the best speech you've ever heard?
                              
One - Sentence Financial Rules

Here is an interesting new section I am taking from an article by The Motley Fool.  Click here for the full article.

 

"There are 56,956 personal finance books on Amazon.com. In aggregate, they contain more than 3 billion words. This seems absurd, because 99% of personal finance can be summarized in nine words: Work a lot, spend a little, invest the difference. Master that, and the other 2.999 billion words are filler.

 

The most important finance topics don't require details. Most can be, and should be, summarized in a sentence or two."

 

"During the last 100 years, there have been more 10% market pullbacks than Christmases. Everyone knows Christmas will come; think of volatility the same way."

 

To quote Larry Summers: "A good rule of thumb for many things in life holds that things take longer to happen than you think they will, and then happen faster than you thought they could."
Thought for the Week:
The Power of Strategic Dividend Growth

Synopsis 
  • Stocks that consistently pay dividends tend to out perform non-payers. Furthermore, companies that grow their dividends have massively outperformed those that keep their dividends constant.  
  • Finding stocks with dividend growth requires tremendous skill, and investors get burned when they buy stocks where the underlying fundamentals cannot support the dividend. 
  • The Federated Strategic Value (FSV) portfolio is managed specifically to search for stocks that increase their dividends over time. 

Dividend Paying Stocks Dominate

 

The chart below shows the performance of S&P 500 companies from 1972 - 2012, broken down by dividend payment policy:

 

 Source: Ned Davis Research

 

There's quite a bit of data in this chart so let's start by highlighting a few key points:

  • Dividends Matter: Putting $100 into those S&P 500 stocks that pay dividends consistently (dark blue line) in 1972 would be valued at very respectable $3,103 in 2012. A portfolio of stocks that did not pay dividends (brown line) would only be worth $193, or 94% less than the portfolio of stocks that pay dividends.
  • Dividend Growth Matters More: Selectively picking stocks that initiated and/or grew their dividends over time (light blue line) would return $4,168 over the same time period, or 34% more than picking those stocks that paid consistent dividends (dark blue line).
  • Cutting Dividends Stings: Buying stocks that cut dividends (dark green line) would have actually lost $12 over this 40 year time span, which shows just how badly the market reacts to companies that cannot maintain the proper financial health to support their dividend payments. 

This chart clearly shows the power of owning dividend-paying stocks over time. However, it's not as easy as simply picking stocks that pay high dividend yields and holding them indefinitely. Stocks with abnormally high yields often fall into two categories:

  • Stock Price Whacked: A dividend yield is calculated by taking the amount of the dividend payment and dividing it by the stock price. For example, if a stock pays $4 in dividends each year when the stock price is $100, then the dividend yield is 4% ($4 � $100 = 4%). Stocks with unusually high yields are often the result of the stock price getting hit. If this hypothetical stock price went from $100 down to $40, then the yield would increase to 10% ($4 � $40 = 10%).
  • Unsustainable Payouts: Stocks that pay high yields must be carefully analyzed to ensure that the company can continue to support the dividend payment. If a company earns $10 million this year and has committed to pay $15 million in dividends, then management may put the financial health of the company at risk to keep its promise to shareholders. 
Therefore, investors are best suited to focus on the most attractive risk-adjusted dividend potential rather than just the stated yield.

 

Give it Time

 

Now that we've shown that an investor can do quite well by staying on the blue lines and avoiding the dark green one, we now need to explain why a long-term investment horizon is critical when investing in dividend payers.

When a company pays a dividend, the value of that firm falls by the amount of the dividend paid. For example, if a firm is worth $500 million and they paid a dividend totaling $50 million to investors, then the resulting value of the firm is $450 million ($500 - $50 = $450) after the dividend was paid with cash in the firm's bank account. Since the firm now has $50 million less in the bank, the stock price must be reduced by that amount as well, since the value of the firm is now lower.

The key point here to remember here is that shareholders theoretically do not gain or lose from a dividend at the time of payment. They receive the dividend amount in cash equivalent to the amount of loss in stock price.

 

Therefore, an investor must be patient and wait for the company to rebuild that $50 million in value by selling more goods and/or services. Those companies who continually replenish the amount paid tend to have stocks that fall on the dark blue line above. They pay consistent dividends because their revenues are also consistent.

 

If our hypothetical firm were able to not only replenish the $50 million but actually grow that figure over time, then they would likely end up on the light blue line above (the most profitable group of investments on the chart). For example, if the firm grew profits to $60 million this year and $70 million next year, then company management could raise the dividend payout to reflect their growth in profits.

 

Simply put, investors must give dividend paying stocks time to replenish the value lost by paying the dividend to shareholders. Investors skilled at finding these companies that can perform this process of generating profits and distributing them to shareholders consistently will most likely be rewarded over the long run.

 

NOTE: Companies unable to replenish that $50 million payment tend to gravitate towards the dark green line over time. Once a firm realizes that they cannot support their dividend, they will cut it or suspend it entirely, which almost always crushes the stock.

 

Implications for Investors

 

In an ideal world, keeping a portfolio highly concentrated on the blue lines would be easy, however, it's quite the opposite. Investors need an active manager for this type of investing because knowing how to determine whether a stock's future is on a blue line or the dark green one requires tremendous skill and experience.

 

The Investment Committee consists of seven highly experienced professionals who have been trained to look through a company's financials to determine the health of their dividend. These stocks are pervasive throughout most of the DIAS portfolios given their potential for strong income generation and capital appreciation.

 

Furthermore, we have partnered with Federated Investors to offer our investors the opportunity to allocate a portion of their overall portfolio to dividend growers through the Federated Strategic Value (FSV) fund. This strategy offers an investor a highly targeted approach to owning stocks that Federated's team expects to end up on that light blue line above.

 

NOTE: While we encourage investors to consider FSV, we strongly urge that you consult your financial advisor to determine the appropriate allocation given your risk profile and investment objectives. Volatility tends to be higher in equity-only portfolios and will require a long-term investment horizon.

 

The bottom line is that stocks that offer dividend growth over time tend to significantly outperform other dividend paying policies. Federated's Strategic Value portfolio is a great way to create a targeted allocation to this group of stocks managed by a team of highly skilled investment professionals. 

 .   

 This commentary is not intended as investment advice or an investment recommendation. It is solely the opinion or our investment managers at the time of writing. Nothing in the commentary should be construed as a solicitation to buy or sell securities. Past performance is no indication of future performance. Liquid securities, such as those held within DIAS portfolios, can fall in value. Global Financial Private Capital is an SEC Registered Investment Adviser. 

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The specific products or services described in this section of the newsletter are neither offered through or recommended by Global Financial Private Capital, LLC., an SEC Registered Investment Adviser. 

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I hope you find this information adds value. If you would like to talk to John regarding these, or any other financial concerns, please feel free to call us at (614) 602-6506 and we will be happy to schedule a visit.
 
Have a great week!  Enjoy His gift of today!

 

Investment Advisory Services offered on a fee basis through Global Financial Private Capital, LLC, an SEC Registered Investment Adviser. Past performance is not indicative of future results. This commentary is not intended as investment advice or an investment recommendation it is solely the opinion of our investment managers at the time of writing. Nothing in this commentary should be considered as a solicitation to buy or sell securities. Insurance and Annuity product guarantees are subject to the claims-paying ability of the issuing company, and are not offered through Global Financial Private Capital. 
 
 

Certified Financial Planner Board of Standards Inc. owns the certification marks CFP�, CERTIFIED FINANCIAL PLANNER™ and the federally registered CFP (with flame design) in the US., which it awards to individuals who successfully complete CFP Board's initial and ongoing certification requirements.

In This Issue
Featured Question of the Week!
One - Sentence Financial Rules:
Thought for the Week: The Power of Strategic Dividend Growth
Anyone Out There Looking for Help?



John R. Deitrick,

CFP�,

  Founder

 

Advanced Retirement Design, LLC
 
7263 Sawmill Rd. Suite 150
Dublin, OH 43016
 
 ph: 614-602-6506
fax: 614-259-6094 
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