One of the funny paradoxes of long-term dividend investing is this: as soon as you make your stock purchase in a company that you plan to hold for a significant chunk of your investing lifetime (we're talking an investment horizon of decades here), it can often be in your financial interest to "root" for lower stock prices the moment you make your purchase. At the surface, this may seem annoying because you will see a stock that you just purchased for $100 fall to $80 and think, "Dang, I wish I could buy it now."
But nevertheless, rooting for lower stock prices may be in your long-term financial interest considering that 317 S&P 500 companies are currently buying back shares, and lower buyback prices mean higher earnings per share growth and freed up capital to increase the dividend. And if you choose to reinvest your dividends back into the company that pays them out, lower stock prices will enable you to purchase more shares and grow your income faster.
Today, I wanted to look at two scenarios: the total returns for investors who bought in the summer before the crash of 1987 (when the Dow Jones dropped by 22% in a single day on October 19, 1987) and investors who bought in the winter after the crash.
In June of 1987, the S&P 500 traded at 19x earnings. Today, the S&P 500 trades at just under 19x earnings.
Let's compare the long-term results of an investor who bought a few months before the crash (on June 15, 1987) with the results of an investor who bought a few months after the crash (December 15, 1987).
An investor in Exxon (XOM) who bought $10,000 worth of Exxon in June before the crash would have turned $10,000 into $184,807, compounding his money nicely at a rate of 11.90%. This investor would be generating $5,100 in dividends today, assuming optimal tax strategy (this goes for all the examples).
An Exxon investor who bought $10,000 of Exxon stock in the December two months after the crash would have turned $10,000 into $205,665, compounding his money at a rate of 12.63%. This investor would be generating $5,676 in annual dividends today.
An investor in Altria (MO) [these returns will include Kraft, Mondelez, and Philip Morris International (PM)] who bought $10,000 worth of Altria (it was just "Philip Morris" back then) would have turned $10,000 into $741,200 dollars, compounding at 18.06% along the way. If all that money got converted to Altria, our investor would be generating $34,836 in annual income today (yes, it is easy to see why Warton Professor Jeremy Siegel called the old Philip Morris the best investment of the 20th century).
If an investor in Altria would have waited to put $10,000 into Altria until after the crash, he would have compounded his money at 18.31% but would have actually had less money ($720,384) than an investor before the crisis because of a sharp spike in price between the day of the crash and December, as well as two dividend payments that each amounted to over 2% principal and were allowed to compound for 26 years (it really is amazing what happens when you combine high starting yields with a high dividend growth rate over 25+ years. In this regard, Altria has historically been one of a kind). This investor would be generating $34,362 in annual dividends.
If you bought $10,000 worth of Coca-Cola (KO) stock in June of 1987, you would have compounded your money at 13.39%, turning the $10,000 investment into $260,121. This investor would be generating $6,789 in annual dividends from his investment.
If you made your investment two months after the crash in December, your $10,000 in Coca-Cola would have compounded at 14.01%, creating $280,522 worth of wealth. That would give you $7,321 worth of annual dividends.
If you bought $10,000 worth of General Electric (GE) stock before the crash, you would have received compounded returns of 9.46% which turned into $104,215. That would give you $3,407 in annual dividends. If you waited until after the crash to buy General Electric, you would have grown your money at a 10.39% rate, and you'd have $123,617 today. That would give you $4,042 in annual dividends now.
Had you purchased $10,000 worth of Wells Fargo (WFC) in June 1987, you would have compounded your money at 15.88% and you'd be sitting on $456,976. That would give you $13,937 in dividends today. If you waited until December to make your purchase, you'd be sitting on $525,000 on the dot by compounding your money at 16.84%. In that case, you'd be collecting $16,012 in annual dividends today.
If you decided to buy Johnson & Johnson (JNJ) before the crash, you could have turned $10,000 into $267,195 and you'd be receiving $8,042 in annual dividends (that's a compounding rate of 13.51%). If you made your purchase two months after the crash, you'd have returns of 14.42% and you'd be sitting on $307,508 worth of J&J stock. That would give you $9,255 in annual income.
If you have a very long-term horizon, the difference between doing something like paying 16x earnings for a stock or 22x earnings for a stock begins to matter less and less as the total returns converge towards the earnings growth rate of the firm. Getting a lower price is always better. Your total return, and future income prospects from a security, will always be a function of the price paid for a stock. But look at what happened to the investors who bought before the crash came: Exxon compounded at 11.90%, Altria compounded at 18.06%, Coca-Cola compounded at 13.39%, GE compounded at 9.46%, Wells Fargo compounded at 15.88% and Johnson & Johnson still compounded at 13.51%. If you own an excellent company, and if you buy before a steep correction or crash, you can still achieve impressive returns if you take advantage of the greatest asset a dividend investor can use to his advantage: a long-term time horizon.