For This Retiree, The Goals Are Income And Safety

by: Ron Stewart

What is the best investment strategy?

With a few years of retirement -- and more than a couple of years of rough seas with growth stocks -- behind us, we found ourselves asking that question during the last few months of 2011. We reviewed our investment strategy, read as much as we could find on income investing, and then re-directed a portion of our portfolio to pursue high-yield dividend income.

While the strategy produced good results in 2012, the really fun part was all that we have learned and continue to learn. What we read suggested we were overdue for a strategy shift, given the change in personal circumstances and U.S. and global economies. As a result, and with the help of a Seeking Alpha contributor, Monty Spivak, we purchased a selection of high-yield stocks and started charting our income projections and the eventual results. You can review Mr. Spivak's articles here.

These are excellent articles, well written and specific. Mr. Spivak supports his vision for "high yield with moderate risk" with background on the economy at the time, and with specific stocks that might accomplish his strategy.

In general, Mr. Spivak suggested a plan to "receive a higher present-value of returns from higher current yield, rather than through dividend growth." In Part IV of his series, he summarizes, "the high-yield goal is to mitigate your risk while getting paid early, often, and as much as possible. The nature of this strategy is that one needs to trade-down to smaller and more yield-oriented securities."

Investors can achieve higher yields with tolerable risk levels, Mr. Spivak argued, by selecting a fairly large number of dividend-paying stocks in multiple sectors in a range of countries and economies. Holding fewer shares in a broad base of companies and sectors reduces exposure to downturns, he argued. In addition, buying non-U.S. companies, many of which trade as "pink sheet" equities and require a phone call to your brokerage desk, leaves the portfolio less exposed to U.S. economy downturns. He suggested special attention be paid to Canadian and Australian stocks.

So we followed his ideas -- at least our understanding of them. On Jan. 1, 2012, we set aside just under $120,000 to direct to this strategy. Our intent was to select income-producing equities with the potential of producing 8% or more in income and 8% or more in growth. With a lot of luck, we exceeded both goals. For calendar year 2012, we earned $12,763 in dividend income for an annual return of 10.65% and 27% above our goal of $10,007. In addition, our principal grew to $136,410, 13.8% growth. We took $12,311 or our income for spending purposes, leaving $124,099 in principal to begin 2013.

His strategy required us to focus lots of attention on the portfolio, and to direct quick response to both buy and sell opportunities. Trading can be frequent, and it is necessary to use low-cost trading houses if commission costs are to controlled. Because we have held accounts with Vanguard for many years, we have used them; a typical trade costs just $7.

A peek at our summary worksheet for 2012 reveals the upshot. We bought:

Pennant Park Floating Rate Capital (NASDAQ:PFLT), Canadian Imperial Bank (NYSE:CM), OneOK Partners (NYSE:OKS), Calumet Specialty Products Partners (NASDAQ:CLMT), Nordic America Tankers (NYSE:NAT), Textainer Group Holdings (NYSE:TGH), Student Transportation (NASDAQ:STB), Telstra Communications (OTCPK:TLSYY), Telecom Corporation of New Zealand (NZTCY), Atlantic Power (NYSE:AT), Niska Gas Storage Partners (NYSE:NKA), Atlas Pipelines (NYSE:APL), Sandridge Mississippi Trust (NYSE:SDR), Seadrill Ltd. (NYSE:SDRL), Pennant Park Investment Corp. (NASDAQ:PNNT), KKR Financial (KFN), Sandridge Permian Trust (NYSE:PER), Pitney Bowes (NYSE:PBI), Triangle Capital (NYSE:TCAP), PennyMac Mortgage Investment Trust (NYSE:PMT), National Grid (NYSE:NGG) and Cliffs Natural Resources (NYSE:CLF).

But by year's end we held just seven of these: PFLT, CLMT, PNNT, KFN, PER, TCAP, and PMT.

Others were sold for various reasons, including: 1, Dividends were decreased; 2, the stocks were too volatile or appeared to be on downward trends; 3, we didn't like the withholding practices of some countries, such as Canada.

At some point during the year, we also tried chasing ex-dividend dates, making large portfolio shifts just prior to companies going ex-dividend. The strategy produced fatter dividends, but it also worried us that market timing exercises like these could get us caught in a bad situation, where money might be disproportionately parked in risky stocks. Remember, too, it was an election year.

Another factor shaped our evolving strategy during 2012, and that was the introduction to a more conservative and more analytical dividend investor who operates a website called Dividends 4 Life (D4L). The author also anonymously writes a blog and is a contributor for Seeking Alpha (see a recent column here.) In contrast to Spivak's strategy, D4L likes "dividend-growth" strategies. He dislikes frequent trading, instead preferring to buy and hold stocks with 10 years or more histories of increasing their dividends. He seeks to buy these stocks at attractive present values, and hopes the increasing dividends will drive prices up. The result, of course, is a variety of compounding that can produce very attractive yields over time on equities purchased at "yesterday's" prices. He uses criteria such as fair value, dividend history, underlying free cash flow support, and a comparison of dividend yield to that of far less risky money market accounts.

To an amateur investor like us, the detail and attention to trends identifiable from both balance sheet and cash flow statements was instructive for its applied quantitative analysis. We began to wonder if it might be possible to "blend" these competing strategies, and thus began a very serious learning exercise.

In a future article, we will discuss our progress toward a balance of high-yield, quantitative analysis, predictability and safety.

Disclosure: I am long PFLT, PNNT, PER, PMT, TCAP, CLMT, KFN. 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.

Additional disclosure: I am an amateur investor, not a licensed financial adviser or experienced investment professional. Information provided should never be construed as investment advice. It is for educational and informational purposes only, and constitutes the elements of a personal learning project.