The Dividend Growth Balanced Portfolio With Reinvestment

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 |  Includes: AGG, LQD, VIG, VYM
by: Dale Roberts

In the first article of this income exploration I combined two popular dividend growth ETFs with one broad based bond ETF and one corporate bond ETF. The two dividend ETFs are both from Vanguard, (NYSEARCA:VIG) and (NYSEARCA:VYM). They are joined on the bond side by the broad based (NYSEARCA:AGG) and the corporate bond ETF (NYSEARCA:LQD).

Certainly the learning from that article is that bond income from ETFs is certainly 'broken.' Falling interest rates have been great for bond prices and for bond investors and those who hold bonds in balanced portfolios. But for those who want to use bonds for that other reason to hold, income, bonds have been heading in the wrong direction.

Here's the combined bond income stream from AGG and LQD, with no reinvestment. The first article examined the Dividend Growth Balanced Income Portfolio in a standing start drawdown scenario.

The portfolio allocated $10,000 to each ETF.

Start Date of January of 2007

ETF LQD AGG Inc Total
03/07 125.56 114.65 240.21
Dist 137.77 114.65 252.42
Dist 135.86 119.64 255.50
Dist 133.05 119.93 242.98
TOT 07 991.11
Dist 132.21 116.18 248.39
Dist 134.49 113.37 247.86
Dist 127.43 106.81 234.24
Dist 121.81 116.64 238.45
TOT 08 968.94
Dist 130.24 101.12 231.36
Dist 138.67 92.76 231.34
Dist 133.05 99.70 232.75
Dist 132.21 100.07 232.28
TOT 09 927.73
Dist 124.62 94.47 219.09
Dist 127.43 94.47 221.90
Dist 121.81 89.73 211.54
Dist 120.87 109.67 230.54
TOT 10 883.07
Dist 120.87 94.47 215.34
Dist 120.87 93.71 214.58
Dist 118.06 82.75 200.81
Dist 113.37 108.67 222.04
TOT 11 852.77
Dist 110.56 58.82 169.38
Dist 111.50 70.78 182.28
Dist 109.62 65.80 175.42
Dist 104.94 111.17 216.11
TOT 12 743.19
Dist 103.07 64.80 167.87
Dist 102.13 65.80 167.93
Dist 101.20 60.81 162.01
Dist ? ? ?
TOT 13 ?
Click to enlarge

The Dividend and Dividend Growth Combo had its own issues, er issue, namely the Great Recession. It turned the Dividend ETFs into a Great Disappointment on the income front. There's certainly nothing wrong with the holdings, but when you're investing with the crowd, and the crowd runs scared, drawdowns can hamper the income stream as money is needed for those redemptions. The managers are scrambling.

Here's what happened to the income stream of the combined stock and bond portfolio.

Start Date of January of 2007

ETF Dividends Bonds Total
03/07
Dist 84.64 240.21 324.85
Dist 92.37 252.42 344.79
Dist 107.56 255.50 363.06
Dist 137.77 242.98 380.75
TOT 07 1413.45
Dist 122.39 248.39 370.78
Dist 111.41 247.86 359.27
Dist 120.56 234.24 354.80
Dist 111.04 238.45 349.49
TOT 08 1434.36
Dist 110.87 231.86 342.73
Dist 00.00 231.34 231.34
Dist 92.09 232.75 324.84
Dist 105.46 232.28 337.74
TOT 09 1236.65
Dist 86.38 219.09 305.47
Dist 97.68 221.90 319.58
Dist 103.26 211.54 314.8
Dist 116.34 230.54 346.88
TOT 10 1286.73
Dist 109.02 215.34 324.36
Dist 116.62 214.58 331.20
Dist 112.68 200.81 313.49
Dist 133.46 222.04 355.50
TOT 11 1324.55
Dist 112.87 169.38 282.25
Dist 129.71 182.28 311.99
Dist 135.48 175.42 310.90
Dist 185.72 216.11 401.83
TOT 12 1306.97
Dist 122.29 167.87 290.16
Dist 144.81 167.93 312.74
Dist 150.49 162.01 312.50
TOT 13 ? ? ?
Click to enlarge

And certainly if the goal was to generate lower volatility, mission accomplished on that front. The portfolio slightly outperformed the S&P 500 from 2007 to present, and with much lower volatility.

That said, it was certainly a disappointment on the income growth front. It has some decent initial yield, but no growth.

So how does this portfolio fare in the income accumulation phase? Let's have a look at the bond ETFs with income reinvestment.

Start Date of January of 2007

ETF LQD AGG Inc Total
Dist 125 114 240
Dist 141 114 256
Dist 142 123 265
Dist 139 136 275
07 TOT 1036
Dist 142 131 273
Dist 145 130 276
Dist 141 123 264
Dist 135 129 263
08 TOT 1076
Dist 149 119 268
Dist 158 111 268
Dist 156 112 268
Dist 155 115 270
09 TOT 1074
Dist 150 108 258
Dist 153 110 263
Dist 151 104 255
Dist 149 130 279
10 TOT 1055
Dist 154 112 266
06 129 113 241
Dist 154 135 290
12 121 109 254
11 TOT 1051
Dist 149 134 283
Dist 110 74 219
Dist 149 89 239
Dist 146 85 290
12 TOT 1031
Dist 139 84 224
Dist 141 85 227
Dist 139 80 220
? ? ?
13 TOT
Click to enlarge

Simply, even with reinvestment of income the Bond Portfolio still does not deliver income growth. Literally, from 2007 to 2012.

And here's the dividend growth from the dividend ETFs with dividend reinvestment.

Start Date of January of 2007

ETF VYM VIG Inc Total
Dist 51 33 84
Dist 57 35 92
Dist 68 40 108
Dist 88 51 136
07 TOT 422
Dist 72 41 113
Dist 72 52 125
Dist 76 50 126
Dist 67 48 116
08 TOT 480
Dist 65 54 119
Dist 00.00 00.00 00.00
Dist 53 44 97
Dist 67 46 114
09 TOT 330
Dist 48 45 93
Dist 58 49 107
Dist 60 52 112
Dist 67 61 128
10 TOT 441
Dist 67 53 120
Dist 75 55 130
Dist 68 58 126
Dist 84 67 151
11 TOT 527
Dist 73 55 128
Dist 83 65 148
Dist 85 65 150
Dist 111 104 215
12 TOT 641
Dist 81 61 141
Dist 97 73 170
Dist 102 75 177
Dist ? ? ?
13 TOT ?
Click to enlarge

As we can see, the dividend growth ETFs work quite well with dividend reinvestment, save for that event known as the Great Recession. Once again, perhaps the dividend growth ETFs work quite well in periods between the major corrections? The dividend increase from 2007-2008 was 14%. The dividend increase from 2010 to 2011 was 20%, and from 2011 to 2012 it was 21%. An estimate for 2013 would be about 12%.

Check around on SA with those who manage their own portfolios. Those ETF numbers compare. And in fact, they beat some notable DG stock pickers on a short-term basis for dividend growth.

And what happens when we combine the income stream from the stock and the bonds in the accumulation phase?

Start Date of January of 2007

ETF VYM VIG Inc Total
STK TOT 422
BND TOT 1033
07 Total 1455
STK TOT 480
BND TOT 1076
08 Total 1556
STK TOT 330
BND TOT 1074
09 Total 1404
STK TOT 441
BND TOT 1055
10 Total 1496
STK TOT 527
BND TOT 1051
11 Total 1578
STK TOT 641
BND TOT 1031
12 Total 1672
Click to enlarge

And there you have it... almost 20% income growth from 2009. Solid numbers. And on the other side of the coin an investor would have that portfolio price protection. From 2007 to 2012 the income increased by only 15%. The yield on cost increased to 4.2%. That is perhaps a slight beat of inflation. If the most recent trend of income growth continues this asset mix might deliver in a meaningful way. Five to six years is just a blip in a long-term investment strategy. Over a 20 or 30-year time horizon, 2009 may be a non-event. 2009 might look like that blip on a spreadsheet. But we could also experience more '2009s' along the way.

The takeaways.

In the accumulation phase the investment objective would be realized. We have income growth above inflation, price protection achieved through the combination of stocks and bonds, and a slight outperform compared to the S&P 500 as a bonus.

Having your cake and eating it too? Only time will tell.

Stay tuned for the Cranky approach to fueling Dividend Growth with Balanced Asset Allocation. It's the current approach I employ and you can examine the theory in this article, "Dividend Growth and Asset Allocation - Together At Last."

I am using the combined stock and bond income to fuel only the income growth portion of my portfolio (the rising dividends from the dividend ETFs). I have income growth of 17% and 25% over the last two years in 2011 and 2012.

We'll see how that approach works with the above Balanced Income Portfolio. Once again, stay tuned there's more to come.

Disclosure: I am long VYM, SPY, DIA. 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. Dale Roberts aka cranky is a Streetwise Coach at ING Direct Mutual Funds. Streetwise Portfolios offer the lowest-fee, index-based portfolios available to Canadians. Dale’s commentary does not constitute investment advice. The opinions and information should only be factored into an investor's overall opinion forming process.