One of the difficult things about judging an investment's success solely on the basis of total returns is that it can be difficult to gauge progress when the price of the asset changes every day. To use General Electric (NYSE:GE) as a quick example, it's easy to see that the company has traded between a little less than $18 and a little more than $23 over the past year. For someone that owns 1,000 shares of GE, it can be difficult to define the success of the investment because it vacillates every single day. Last week, it was worth $21,000. This week, it's worth a little more than $20,000. And so on.
But things get more interesting when you choose to define your investment's success based on the growing income streams you accumulate. Let's say that you have $500 each month to invest in Johnson & Johnson (NYSE:JNJ) stock. Instead of thinking about it exclusively in terms of total returns, you may choose to think something along these lines, "Johnson & Johnson trades at around $70 per share. A $500 investment will buy me about 7 shares. Instead of worrying about the stock price, I can think of it like this: each $500 investment buys me $17.08 in annual income that is likely to go up at a rate higher than inflation with the passage of each year."
This approach to judging an investment's success by the income generated comes with three advantages:
1. The precision offered by dividend stocks can make expectations clear. Stock prices can change every day. It's hard to get a handle on that. But that $0.61 per share quarterly dividend check actually got sent out to shareholders on December 11th, 2012. And furthermore, the company is backed by a half-century record of not only paying out dividends every three months, but paying out dividends that have grown each and every year over that time frame. That $2.44 dividend is supported by over $6 in cash flow per share that is generated in over a hundred countries and dozens of currencies worldwide. As blue-chip companies like General Electric and Wells Fargo (NYSE:WFC) have shown, there is no etched-in-stone guarantee that this will always be the case. But the track record of raising dividends through all economic conditions is strong enough for many blue-chips that it seems "more likely than not" that the string of uninterrupted increases will continue indefinitely into the future.
2. This precision makes forward progress attainable. This one may be unique to my personality and not universally applicable. Personally, I hate feeling like I'm going backwards in any area of my life, investments included. The problem is that it is almost guaranteed that any stock holding will suffer a noticeable decline over any long period of holding it. If I own shares of Exxon Mobil (NYSE:XOM), I'm going to be flustered when the stock price falls from $90 to $75 if I use that as my measuring stick. That's no fun for me: while it may be a nice opportunity to add to my position, it would be no fun to know that my net worth is going backwards. But if I choose to focus on the income growth, I can clearly see the forward progress: Exxon paid a $0.44 dividend in December 2010, a $0.47 dividend in December 2011, and a $0.57 dividend in December 2012. That's the kind of forward progress I can appreciate.
3. This precision makes it easy to hold stocks through difficult times. The shares of Coca-Cola (NYSE:KO) fell to below $19 per share in 2009. If you were worried about the price of the stock, it could have been easy to sell: Who knew how much lower the share price could have fallen? However, dividend investors could be well aware that the company was still generating about $1.50 annually in earnings, and enjoyed the fact that the quarterly dividend rose from $0.19 per share to $0.205 per share. The knowledge that a half-a-century record of paying increasing dividends to shareholders may have made it easier to hold on through the stock market lows of the recession.
The hard part about owning common stocks is that there are no guarantees. But focusing on the growing income streams from blue-chip stocks can come respectably close. When you focus on the excellent companies that raise their dividends, you can tune out the market noise and focus on the steady predictability on the income checks that come in four times per year. When you stop thinking about 1,000 shares of Procter & Gamble (NYSE:PG) as something that is worth $69,000 and instead think of it as a $2,248 stream of income that is likely to grow each year, it becomes much easier to add precision to your financial planning and feel a sense of sustained progress when the income goes up each year by a rate higher than inflation.
Disclosure: I am long GE, JNJ. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.