I’ve decided that I’m going to start a few “hot tip” type blogs and call them “Handy Andy’s Lessons”. This is likely to change, because I kind of already hate the name, but oh well. The first topic that I want to write about is starting a dividend portfolio, and that topic came to me after listening to Episode 142 of the Investing for Beginner’s Podcast, where a listener had this question and Dave and Andrew chimed in on their thoughts.
Personally, I think that there are really two different thought processes that you can have when starting a dividend portfolio:
1 – Create a portfolio off of great dividend paying companies currently
2 – Create a portfolio off of companies that have the potential to be great dividend payers
The difference there really is if you want a company that is already made it to the top or if you want to identify a company that is going to be getting there eventually.
If you’re looking for a steady source of income right now, then I would target focusing on some companies that are currently great dividend paying companies. If you’re like me, and you have ~ 30 years until retirement, or hopefully less, then I want to try to find companies that are not great dividend payers currently but have the potential to be, so that way I can invest in them before they get that ‘dividend clout’ and I can really reap the rewards.
In other words, I’m trying to beat the market to the punch of identifying some future Dividend Aristocrats. I wrote a blog that really outlines how to build a dividend growth portfolio with tomorrow’s Dividend Aristocrats, and if you haven’t read that, I highly recommend you check it out.
Don’t believe me that this is something that I actually do? Check out one of my accounts on Fidelity:
See what I mean?
This is an active practice that I partake in currently, trying to find the Dividend Aristocrats of the Future, to set myself up for future success.
I call it ‘DAF’ for fun…and because I’m an idiot lol.
The beauty of a dividend portfolio is that if you utilize DRIP, or dividend reinvestment plan, then your stocks will continuously compound as when the dividends are distributed, they’re immediately distributed right back into more shares of that same company.
It really is a beautiful thing to be honest and it hits on the major points of investing of dollar cost averaging and compound interest, as well as simply selecting companies that are going to continue to provide you wealth throughout your career.
While that’s all fine and dandy, Handy Andy is here to teach you how to do this, and yes, I did just rhyme the same word back to back to back…boom.
So, first off, why would you even want to start a dividend portfolio? The beauty of a dividend paying stock is that the company will continue to distribute a portion of their earnings each quarter to the shareholders in a form of a dividend, or just a cash payment, honestly.
Many shareholders will use this to reinvest in the market, either back in that same stock via DRIP as I mentioned or taking the cash and then collectively deciding where to allocate that money. Some people, however, will use the dividend as an income stream for them to live on. Let me show you an example:
For instance, if a company was trading for $100/share on the stock market, and that company had a dividend yield of 4%, then you would make $4 off of every share as $100 * 4% = $4. So, I encourage you to DRIP your dividends and put them back into that company, but some people will just take that cash.
Let’s imagine that you decided to try to live off some of this money, and you owned 1,000 shares of this fake company:
As you can see, your ownership in this company would’ve given you $4,000 over the course of the year. Now of course, that’s likely not enough for you to survive on, but if you need $40,000/year, then maybe another 9 companies like this could help you get to that point and you’re creating income that is going to hopefully be very steady and consistently increasing.
It is important to know that a dividend is never, ever a guarantee, and can be revoked by the company at any point in time – so never rely on this for 100% of your income, because you could end up being in really bad shape if you do that.
So, if you’re looking to create a dividend portfolio, I think Dave is spot on when he recommended that you checkout the Dividend Aristocrats.
All of these companies are in the S&P 500 and have at least 25 years of consecutively growing their dividend, so they have a fantastic track record. I’d recommend checking some of them out and seeing if any catch your eye.
You don’t need to necessarily go this in depth on your analysis, but you should have a really good understanding about the company, the industry, and the financials.
Of course, I have to plug the Value Trap Indicator as I truly think it’s the best tool that I’ve used to help see if a company is undervalued vs. their intrinsic value and identify if you should be the stock or not.
The beauty of the VTI is it teaches you to read a balance sheet at a very high level and understand the numbers, but also keeps you from having to get so into the weeds.
Normally, I almost never am the type of person to suggest buying an ETF, but in some cases, I think that it can be a really good thing. The ETF under the ticker NOBL is a Dividend Aristocrat ETF and could be a way for you to start your portfolio without getting overly specific into one company, as you can see their top 10 holding below from MarketWatch:
I think that anyone has the ability to beat the market so I always recommend that you try to find individual stocks, but as you’re starting out, an ETF could be a great option for you until you become more comfortable and familiar with the market.
I mean, you’re trying to create a dividend portfolio – why not start out with a portfolio of Dividend Aristocrats?