An Update on My Real-Life, Real-Money $100,000 Dividend Growth Portfolio

For several years, I have been reporting on Daily Trade Alert about my Dividend Growth Portfolio.

The name of the portfolio isn’t sexy, but the results certainly are. I update the results page each month, and you can always access the most recent report by using the pull-down menu at the top of every page on this site.

The portfolio recently celebrated its 9th birthday, so we thought it would be a good time to present an overview of the portfolio, explain why it exists, how it works, and what it has accomplished.

The Dividend Growth Portfolio, or DGP, began life on June 1, 2008. It is a real-time, real-money stock portfolio (not a model). Its purpose has always been to experiment with and demonstrate real dividend growth investing. Managing it in real time makes the results more credible and educational than back-tested “portfolios.” Back-tests inherently suffer from hindsight distortions.

Portfolio Summary

Here is a summary of the portfolio’s origination and current status.

At its inception in 2008, the value of DGP was $46,783.

No money from outside has been added since then. The non-addition of outside money is important for this illustrative portfolio: Calculations of income and total value are not clouded by the impact of new money from outside.

Therefore, the portfolio’s returns solely reflect the original stake, stock selection, incoming dividends, and management decisions made since the portfolio was created.

They do not reflect the impact of added money, since none has been added.

All the while, of course, dividends have been flowing into the portfolio, creating new investment opportunities and contributing to compounding.

Approximately $22,160 in dividends was received in the DGP’s first 9 years.

The DGP is part of my wife’s and my retirement investment plan. So in addition to its purposes of illustration and education, the DGP is managed with an eye to eventually living off its income stream in retirement. I would anticipate that at that time, the dividends will stop being reinvested. Instead, we will take them for retirement income (that means we will spend them).

DGP Business Plan

The complete business plan for the DGP can be found here. I wrote the first “Constitution” for the DGP when it was born in 2008, and I amend it periodically.
The business plan contains general guidelines about:

• The mission of the portfolio
• How to select stocks to buy
• Dividend reinvestment
• Number of stocks and diversification
• When to consider selling a stock

I run the portfolio as a business, which in fact it is: It has assets, revenues (the dividends), and management decisions to be made. Expenses are minor, just the commissions each time a transaction is made.

I always encourage investors to look at their investing as a small business. The business mind-set has important ramifications which will be discussed in this article.

I do not now and have never held this portfolio out as the best or only way to execute a dividend growth strategy. The DGP is simply an example of real-life investing based on the strategy of dividend growth investing. I hope and believe that it has educational value.

Income Generation

The main goal of the DGP is to generate a steadily increasing stream of dividends paid by excellent, low-risk companies.

The idea is that dividends from the best companies are far more reliable than market prices; they have less volatility. That means that over time you can reasonably anticipate where your income stream is likely to be when the time comes that you need the money to live on.

Given the market’s volatility, including bear markets and bull markets, it is very hard to project total value out for many years.

The DGP’s objective of generating a steadily rising income stream is being accomplished. Dividend revenue has increased each year since the portfolio was created in 2008. Dividends are on track to increase again in 2017.

The green bars on the following graph show the dividend totals each year (2017 and 2018 are estimates). The red dot on the 2017 bar indicates dividends received through the end of June, which was one month past the portfolio’s 9th birthday. 2017 is on track to hit its estimate by the end of the year.

When I established the portfolio in 2008, I set a numerical goal of achieving a 10% yield on cost by the portfolio’s 10th birthday in 2018.

I unnecessarily complicated the goal by stating it in this fashion, because it requires computation of the dividend run-rate rather than just counting dividends received. The run-rate is the “speed” at which the portfolio is producing dividends at any given time.

In retrospect, it would have been simpler to just state the amount of dividends to be collected in the 10th year. But having started with the run-rate goal, I have stuck with it.

I use the Estimated Income calculator at E-Trade to calculate the run-rate. That tool estimates the dividends to be paid in the next 12 months based on existing or announced dividend rates and probable payment schedules. It presumes that dividend payouts will be neither cut or increased unless such changes have been announced.

Here was the picture at the end of June.

The estimated income for the next year is shown at the upper left. The run-rate (yield on cost) is calculated as follows: $3672 / $46783 = 0.07849, which rounds to 7.8%. In other words, the portfolio’s current yield based on the amount originally invested is 7.8%.

You can see on the bars that black is used to denote dividend payouts that have already been declared, while purple is used to denote simple extensions of existing payout rates.

When dividend increases are announced by each company, E-Trade plugs in the new amount to calculate the next 12-month projection. So those projections go up as dividend increases become known, and also as I buy new shares with the dividends. As the projections go up, so does the run-rate.

To illustrate: On January 1, 2017, the estimated 12-month total was $3473. As of the end of June, that number has advanced to $3672. In percentages, the run-rate (yield on cost) has increased from 7.4% to 7.8%. That’s how progress is made toward the eventual goal of 10% yield on cost.

I do not believe that I will reach 10% yield on cost by the DGP’s 10th birthday. That would require an increase in the dividend run-rate of 27% over the next 12 months, which is not realistic. An increase of around 8% is more likely.

So I will not hit the original “10 by 10” goal on the 10th anniversary of the portfolio. That’s OK, it was an experimental goal to begin with. The yield on cost will probably be around 8.4% when the 10th anniversary rolls around.

I could “game” the result by purchasing a couple of high-yielding stocks just before the DGP’s 10th birthday, but I will not do that. Since this portfolio is part of our retirement assets, I don’t want to screw it up by selecting stocks for short-term benefit at the expense of long-term reliability.

I manage the portfolio for income optimization. Optimization does not necessarily mean short-term maximization. Instead it covers not only the immediate amount, but also the reliability and probable growth of the income stream over a very long period of time.

Stock Selection

I use an analytical method that I have developed over the years to pick stocks. It is based on dividend evidence, business models, fundamentals, and stock valuation for each company. The methodology is on display in my “Dividend Growth Stock of the Month” articles, and the approach is described in “DGI Lesson 19: Grading Dividend Growth Stocks to Find the Best Ones.”

This is the composition of the DGP a month after its 9th birthday (July 1, 2017):

An important element of stock selection is valuation. I will not purchase any stock unless it has a “fair” or better valuation. How I value stocks is described in “DGI Lesson 11: Valuation.”

Dividend Reinvestment

An important element of the DGP’s business plan is to reinvest dividends. This sets compounding into motion in the portfolio and also helps me to diversify it when I buy new stocks.

I do not drip dividends. Instead, I let them accumulate to $1000 in the E-Trade account, then reinvest that money in a single purchase. I may buy more shares of a stock already owned or start a new position.

As an example of diversification, consider the position in Qualcomm (QCOM). I started that position with the first dividend reinvestment in 2017, purchasing 18 shares in February. Then in May, I added another 18 shares with the second dividend reinvestment of the year. Absent those reinvestments in a new stock, that position would not exist in the portfolio. Last year (2016), I created the positions in Cisco (CSCO) and Southern (SO) in the same fashion.

The next $1000 threshold will be reached in August or September. When it happens, I may add to a position already in the DGP, or I might start an entirely new position. I have a watch list of stocks from which I will choose, always keeping an eye on valuation when I make the final selection.

Low turnover

While not strictly buy-and-hold, which implies zero turnover, the DGP is a low-turnover endeavor. I haven’t sold anything in over a year, so the only recent “turnover” has come from adding shares via reinvesting dividends.
But the portfolio is not blindly buy-and-forget. A better description might be buy-and-monitor. These are some of the reasons I might sell:

• A company cuts, freezes, or suspends its dividend.
• A stock’s price becomes seriously overvalued.
• A company undergoes significant fundamental changes, such as an acquisition or spinoff.
• A single position’s size increases beyond 10% of the portfolio’s total size.

For example, in 2016 I trimmed my stake in Realty Income (O) for two reasons: Its stock had become seriously overvalued and its position size was more than 10% of the DGP’s total size. I used the proceeds to add to the stake in Ventas (VTR), which had a better valuation and yield. That immediately increased the DGP’s income run-rate as well as improving the portfolio’s safety via better diversification and balance.

I may be facing a similar decision with respect to McDonald’s (MCD):

Its price has been climbing relentlessly since last November, pushing its share of the portfolio over 12% a couple of days ago. I will be checking that situation over the next few weeks.

Total Return

A secondary goal of the DGP is to generate acceptable total return. Total return, of course, happens as a byproduct of having a portfolio at all. In running this portfolio, maximizing short-term total value is not my first consideration in making any decisions.

That said, as of the end of June the portfolio is up 124% in total value since its inception. Its total value is 7% more than if the same initial amount had been invested in the S&P 500 (via SPY) with its dividends dripped.

The obvious conclusion is that the primary focus on income has not harmed total returns.

Comments and Observations

I think that most of the original ideas behind the DGP have held up well.

Income focus. The emphases on dividend amount, reliability, safety, and growth have served me well. I intend eventually to live off the dividends along with other sources of income such as Social Security.

In Steven Covey’s best-selling The 7 Habits of Highly Effective People, habit #2 is “Begin with the end in mind.” I have tried to apply that principle to the DGP.

The end goal is to live off the dividends in retirement.

So I began with that in mind.

That led me to focus on building the income stream that I eventually want.

This is to be distinguished from the common recommendation that investors ignore income during accumulation and focus instead on amassing sheer wealth.

As the years have passed, tracking the income stream and watching it grow have become far more interesting than focusing on price.

That paradigm shift has, I believe, helped me to manage the portfolio relatively free from emotions, which is businesslike and helpful in making good decisions.

Value focus. I purchase stocks at no worse than fair valuation, with bargains welcomed when they are available. This helps in two ways.

First, the better the purchase price, the better the yield. Better yields lead to more total income, which is the primary focus.

Second, buying at or beneath intrinsic value helps reduce the probability and severity of price losses. While price is a secondary consideration in this portfolio, I am not in love with losses either. While some losses are almost inevitable because of the way prices gyrate in the market, their likelihood and magnitude tends to be diminished if stocks are purchased at reasonable valuations.

Behavioral finance. For me, treating investing as a business provides insulation from some of the more common behavioral finance mistakes that we read about. The first business principle was to create the objective: Income optimization over time. That’s led to these advantages:

• I don’t anchor on recent prices nor pay much heed to short-term price movements. None of the selling guidelines in the business plan is based upon prices. When buying, I focus on company fundamentals, dividend characteristics, and value. Prices are always converted to valuations before making buy or sell decisions.
Herd mentality is virtually eliminated. I pay little attention to hot investment trends or investing “news.” I just try to execute my strategy. There is little helpful information about dividend growth investing from news sources like CNBC.
• I don’t overreact to market events, because I don’t follow the market much. I do, of course, react to things that companies do, but that is different. When company facts change, I try to focus on long-term considerations: Will the new facts really mean anything five years from now? Or are they simply short-term noise? A few years ago, experts were predicting the death of McDonald’s. Now it’s an oversize position.
• I don’t believe that I suffer much from loss aversion. None of my selling guidelines is based on reacting to negative price changes. Indeed, price drops often lead to better valuations, which may translate into buying opportunities rather than pressure to sell.

Diversification. This comes under the heading of lessons learned. When I started this portfolio, it had a significant tilt toward “best ideas only.” But over the past 8 years, I have come to believe that I can achieve similar results with less risk if I have a more diversified portfolio.

That led to a strategic initiative a few years ago to add more stocks and reduce maximum position sizes. The number of positions in the portfolio has been gradually increased from 10 to 20. Emotionally, I feel better with around 20 stocks than I felt with 10.

— Dave Van Knapp