My most recent Dividend Growth Stock of the Month was Lowe’s (LOW), the home-improvement giant. When that article was published less than 2 weeks ago, I saw Lowe’s as a high-quality company available at 12% under its fair value, with a 2.2% yield and 55-year streak of raising its dividend.
Shortly after the article came out, Lowe’s announced its quarterly earnings. In a nutshell, they fell slightly short of analysts’ expectations on revenue and earnings growth. The stock reacted dramatically. Its price dropped 3% overnight on the news.
When the market opened the next day, Lowe’s shares continued to fall, losing about 7% altogether at the low point before climbing back somewhat by the end of the day.
From the point of view of an investor, the stock went from 12% undervalued to 15% undervalued.
Its yield also ticked up to 2.3%. For a buyer, that’s all good news, assuming that nothing fundamentally horrible had happened to the company.
Expert opinions were mixed on that question. Here were the next day’s analyst reactions to Lowe’s announcement as displayed on E-Trade, which is where my Dividend Growth Portfolio resides.
In my Dividend Growth Portfolio, I collect dividends, and when they reach $1000 in cash, I reinvest them into a carefully selected stock. My cash position sat at $998. Close enough.
I decided to jump on the unexpected opportunity presented by the price drop. I couldn’t see where Lowe’s business was any different the day after the earnings announcement than the day before.
So I decided to make my dividend reinvestment into Lowe’s. Here is how E-Trade displayed the execution of the order.
I got 13 shares at $72.68. Yield at that price = 2.3%. Total cost with commission = $951.
That leaves $47 cash in the portfolio. The cash stays put and becomes the start of the next accumulation to $1000, which should occur in November or December.
Here is the tale of the tape for the purchase:
Probably the most significant thing about this purchase is Lowe’s relatively low yield. In the past, I have only purchased stocks with yields of 2.7% or more, although I never made that a rule in the portfolio’s business plan.
Another line in the business plan applies to this purchase:
When reinvesting dividends, try to improve the portfolio along one or more dimensions, such as yield, dividend growth, diversification, and the like.
This purchase accomplishes several things:
• Improves diversification. Lowe’s is classified as being in the Retail Home Improvement industry, which is in the Consumer Discretionary sector. This is a new industry for this portfolio.
• Lowe’s dividend growth rates over the past 10 years have all been in the 20s. That is very high for this portfolio, which mostly holds stocks that yield more but whose dividends grow more slowly.
Lowe’s most recent increase, earlier this year, was 17%. So while the initial yield is smaller, I have reason to expect the payments to increase at a much faster rate than most of the other stocks in the portfolio.
As with all dividend reinvestments, the purchase of Lowe’s illustrates how you can add diversity, and increase the income flow, from a dividend growth portfolio by using money collected from other companies.
I have this portfolio set up in the portfolio analyzer at Simply Safe Dividends (which I highly recommend).
Here was the portfolio summary before the purchase of Lowe’s:
And here is the picture after:
Annual income grows from $3677 to $3698, which is about a 0.6% jump. While the $21 annual increase is small in the first year, I hope that it will grow faster than the dividends coming from most of the other stocks in the portfolio.
Dividend safety across the portfolio stayed the same at 81/100 (which is excellent), and the portfolio’s beta ticked up insignificantly from 0.64 to 0.65. This portfolio has a very low beta; overall we can expect it to have much less price volatility than the general market.
The purchase of Lowe’s advances the main objective of my Dividend Growth Portfolio, which is to generate an increasing stream of income over time from excellent companies. Increases come from two sources: (1) Companies increase their dividends; and (2) I reinvest the dividends to buy more shares, which generate their own dividends in a self-reinforcing cycle.
Note that the portfolio’s income has increased as a result of this purchase without my adding new outside money to the account. Rather, the income increase is the result of reinvesting dividends that have been received from stocks already owned.
Making money on money already made is the definition of compounding. Check out Dividend Growth Investing, Lesson 4: The Power of Compounding and Lesson 5: The Power of Reinvesting Dividends.
The increase of $21 per year may not sound like much, but this is how compounding works. You start with small amounts, keep reinvesting them, and over time they grow to large amounts. Dividend increases from the companies themselves accelerate the process.
As always, do not take what I do as a recommendation for yourself. Always conduct your own due diligence before buying anything. Specifically, nothing in this article should be taken as a recommendation to buy Lowe’s.
— Dave Van Knapp[ad#IPM-article]