One criticism of dividend growth investing that I hear frequently enough is the notion that one must be affluent for the strategy to be meaningful. Usually, the assumption is something like this, "You would only get $30,000 from a million dollar portfolio - I don't have that kind of money, and if I did, I'd want more income than that. Thanks, but no thanks."
The problem with thinking like that is it ignores the second word in the dividend growth strategy: growth. There is a reason why Coca-Cola (KO) and Johnson & Johnson (JNJ), with their respective current yields below 3%, find a home in the portfolio of investors executing a dividend growth strategy. It is because Coca-Cola has been growing earnings by 9.0% and dividends by 10.0% for the past decade, and Johnson & Johnson has grown earnings by 11.0% and dividends by 13.0% over the past ten years.
There is a reason why most of my writings tend to focus on those blue-chip companies, as opposed to say, Campbell Soup (CPB). Campbell Soup has great earnings quality, but poor growth prospects. If you ever anticipate that we will be entering something like The Great Depression 2.0, then Campbell Soup may be an ideal holding because people will likely continue buying Pepperidge Farm cookies, Prego sauces, and the canned Campbell's soup.
But from a dividend growth in normal times standpoint, the company can barely give shareholders increases that pace inflation. The dividend has gone up by only 3.5% annually over the past decade, and the earnings growth has barely been above that. Some analysts are only predicting 4-5% annual growth over the medium term, and considering that the company does not usually post significant volume growth over many five-year rolling periods, those low growth estimates may prove realistic. While a great company, I am in no rush to add it to my portfolio without a substantial discount to intrinsic value.
I mention all of this for one reason: the sweet spot of a dividend growth strategy is to find those companies that are poised to give 8-12% annual dividend increases so you can bring in substantial future profits on a risk-adjusted basis relative to your initial investment.
It's not simply blue-chip investing. The way I see it, a dividend growth investing strategy is about finding the properly calibrated intersection of high earnings growth, high earnings quality and great dividend histories that combine together to meet your long-term needs.
With that in mind, I want to show you how dividend growth investing is not a strategy that has to be something combined to "rich people." When you invest, there are two levers that you can pull to get rich: one is to start with a lot of money, and if you do have that, the alternative is to give an investment time.
Let us take a peek at the results of a blue-chip dividend growth strategy if you committed to investing $5,500 annually for 12 years.
If you invested $5,500 into Chevron (CVX) on January 5th, 2001, you would have $25,701 today, assuming optimal tax strategy. That would generate $822 in current annual income, for a 14.9% annual yield on your initial investment.
If you invested $5,500 into Wells Fargo (WFC) on January 5th, 2002, you would have $14,008 today. That would generate $418 in current income, allowing you to receive 7.6% of your initial investment back in the form of dividends this year.
If you put $5,500 into Colgate-Palmolive (CL) on January 5th, 2003, you'd have $16,093 today. That would be $355 in total income today, for a yield on cost of 6.45%.
If you added $5,500 worth of Conoco (COP) on January 5th, 2004, and folded your Phillips 66 (PSX) spinoff into additional shares of Conoco today, you'd have $18,920 today. That would give you $796 in annual income, for a current 14.47% dividend yield relative to your initial investment.
If you invested $5,500 into McDonald's (MCD) on January 5th, 2005, you'd have $22,324 today generating $676 in annual dividend income for a 12.29% dividend yield on cost.
If you put $5,500 into Coca-Cola on January 5th, 2006, you would have $14,052 today. That would generate $372 in annual income, for a current yield on cost of 6.76%.
If you put $5,500 into Abbott Labs (ABT) on January 5th, 2007, you would have $10,532 today. Assuming you did nothing during the spinoff and folded your shares into the spunoff Abbvie (ABBV) today, you would be generating $361 in annual income.
If you put $5,500 into Clorox (CLX) on January 5th, 2008, you would have $8,943 today. That would give you $266 in annual dividends, for a 4.84% annual dividend yield on cost.
If you put $5,500 into the Southern Company (SO) on January 5th, 2009, you would have $8,519 today. That would be paying out $379 in annual dividends today, for a dividend yield on cost of 6.89%.
If you put $5,500 into Emerson Electric (EMR) on January 5th, 2010, you would have $8,101 today paying you $232 in annual dividends for a dividend yield on cost of 4.21% annually.
If you put $5,500 into Procter & Gamble (PG) on January 5th, 2011, you would have $7,249 today, which would pay out $221 in annual dividends, for a current yield on cost of 4.01%.
If you invested $5,500 into General Mills (GIS) on January 5th, 2012, you would have a total value of $6,935 payout with $215 in annual dividends. That's a dividend yield on cost of 3.90%.
If you put $5,500 into Philip Morris International (PM) on January 5th, 2013, you would have $6,028 today paying you $217 in annual dividends for a 3.94% current yield on cost.
These companies were taken from David Van Knapp's list of the most widely held stocks among dividend investors, which you can access here.
If you want to create meaningful wealth with a dividend growth strategy, both in terms of total returns and a growing income stream, there are three variables that should always be swimming through your head: the amount of capital you can put into a total security, the growth rate you can get out of it, and the time horizon. And then you relate those three things to the price paid.
When you sum up the results from this portfolio, you can see what a dividend growth strategy can accomplish by setting aside $5,500 every year since 2001. Over the course of 13 years, you would have invested a total amount of $71,500.
In terms of total wealth, you would have $167,405 (assuming optimal tax strategy). You'd be generating $5,330 in annual dividends, which would give you $444 each month. Basically, in exchange for diligently setting aside $5,500 every year for thirteen years, you get to reach a point where you make $14.80 just for waking up in the morning.
Once you reach this point, it is realistic to achieve 10% annual growth of income going forward with these types of companies (this is assuming a portfolio dividend growth rate of 7.50%, with the other 2.50% or so coming from the dividends you reinvest four times per year). Even if you stopped adding to your portfolio at this point, it is possible that the $5,330 in annual dividends could turn into $5,863 in annual dividends the next year without you making any further investments. If you can get a dozen or two $5,000 blue-chip investments under your belt early enough in life, you can participate in the "the snowball effect" often associated with compounding.
A blue-chip dividend growth strategy is not something reserved for the Rockefellers, Rosenwalds and Baruchs of the world. The introductory 2-3% starter yield is deceptive. That's what turns most people off from the strategy. But in truth, it represents so much more than that. When you acquire a stake in Coca-Cola or Johnson & Johnson, you are establishing a claim to the future earnings of the enterprise, and in the case of these particular firms, they have long records of growing earnings by 8-12% annually over time. Dividends are a way for you to tangibly benefit in that long-term earnings growth, and it can be short-sighted to avoid a dividend growth strategy because those $10 or $20 dividend checks do not amount to much at first.