Well, it certainly has been a while since I've been able to write an article in this series about My Mad Method [MyMM] and how I'm using it to try to build a portfolio that will generate enough cash when I retire to allow me and my wife to live like we'd like to.
For those of you who are new to this series, let me recap the goals of my IRA portfolio, so as to head off any questions about why I've done what I'm going to tell you I've done to manage it.
I am a Dividend Growth Investing [DGI] convert. I believe very strongly in building a portfolio that will generate enough cash from dividends to allow it, along with other sources of income that I will have in retirement such as Social Security (yes, I believe it will still be there for me and my wife) and my employer's Retirement Contribution Plan, to replace the income from my paycheck. This means that I seek out Dividend Champions, Contenders and Challengers (the data for which are maintained by David Fish here) to take up the positions in my portfolio.
Dividend Champions, Contenders and Challengers [CCCs] are companies that have consistently and continuously increased their dividends every year for 25+ years, 10+ years and 5+ years, respectively. These are the companies that have proven that they will stick to their promises to their owners, the shareholders, to return value to them, and to continuously increase that returned value as the companies continue to grow themselves. By stocking my portfolio with CCC companies I should be able to generate income in retirement that continues to grow at a rate that beats inflation, allowing me to "give myself a raise" every year just for keeping my money invested in consistent dividend growers.
I also aim to have as close to 50 positions in my own IRA as possible. This is to keep any one company from representing no more than about 2% of the portfolio's total value. The reason for this is to keep any serious problems that may affect any one (or two) stock[s] from adversely affecting the overall value of the portfolio. This might seem like a lot of stocks to manage, and begs the question of why not just invest in an indexed fund and let a "professional" investor do the heavy lifting? Well, for me, 50 stocks is not that hard to keep track of, and I've had my own experiences with "professionals" over the years that have convinced me that I'm perfectly capable of managing my own investments, and I can do it better (according to my goals) and in a way that allows me to sleep very well at night.
One thing that I am constantly on the lookout for is how I can increase the dividends that my portfolio produces. Another aspect of managing my own portfolio is to try to keep all of the positions as close to the current "parity" value of each in the portfolio; by that I mean, depending on the number of positions I currently hold, there will be a percentage of the total value of the portfolio that represents an equal allocation of each position. For example, if I had 50 positions in my portfolio, then the parity target would be a 2% allocation of each position's value vis-à-vis the total value of the portfolio.
With all of this in mind, I have been watching my existing 31 positions and the 24 stocks on my watch list to see whether there are any stocks that have increased in value significantly enough to warrant trimming a bit of profit from them to balance them back down closer to the current parity target of 3.23%, then taking those profits and (along with whatever dividends I have accumulated since the last time I purchased anything) adding some new positions to my stable that will generate more in dividend income than the few shares that I sold would have.
Adding new positions has a number of benefits to my portfolio. First, it helps me continue to diversify my portfolio so that I spread the risk around more sectors, industries and the companies within them. Secondly, with each new position that I add to my IRA the parity target percentage gets lower, which means more existing positions that were below parity get closer to, or even hit or go above parity with the addition of every new stock.
Most of the time I take the dividends that accumulate over a month or so and apply them where they will do the most good, buying more shares in a stock that is significantly below parity and which will generate the most dividends for the money spent on them. In this way I can help existing positions get closer to parity by reinvesting my dividends where they will do the most good. (The other way that existing positions get closer to parity is through the organic increase in the value of any stock over time.)
With the market having steadily risen for many months now, there were quite a few stocks in my IRA that had realized very healthy gains in their values over my cost basis for them. By selling just a handful of shares from a small number of existing positions, I saw that I could generate enough additional cash to fund the initiation of one or two new positions that would generate more in dividends over the course of a year than the shares that I had sold would have.
With that in mind, let's take a look at what companies got trimmed slightly, and then we'll see where I put those funds to work.
General Dynamics Corp
Johnson & Johnson
These are all great companies, and it was a tough decision to sell even a few shares of any of them. But as you can see, all of them were well above the current 3.23% parity allocation level before I shaved off, on average, about 10% of each of them. Also, with the exception of COP and LO, all of them had realized gains of at least 30% or more, and their yields were all lower than the best candidates on my watch list to add to my portfolio.
(In retrospect, given its significantly higher yield, I may have been premature to sell any of LO, but I did take into consideration the amount of additional dividends that I would realize by taking the money from the sale a small number of shares of these stocks and both purchasing two new positions, and adding to an existing recent addition to try to bring that one up closer to parity.)
So now let's take a look at what I ended up buying with the funds that I liberated from the stocks above. Turning to the 24 stocks on my watch list and the MyMM metrics that I used to rank them, I weighted the Rankings of the following three metrics by 25%, which multiplied those Ranks by 4, as opposed to the Ranks of the remaining 13 metrics which remained at their base multiplier of 1:
- Yield Rank
- 5 Year Dividend CAGR Rank
- Dividend Champion, Contender or Challenger [CCC] Rank
Including both the Yield Rank and the 5 Year Dividend CAGR Rank meant that I was really ranking all 24 stocks on my watch list by their Chowder Dividend Rule [CDR] number. The CCC Rank was included in this round of selection to help me focus in on those companies that have the best histories of increasing their dividends every year.
The following are the results of this weighted ranking, ordered by their Weighted MyMM Rank in ascending order:
Altria Group, Inc.
Shaw Communications, Inc.
Baxter International, Inc.
Textainer Group Holdings Limited
CMS Energy Corporation
Digital Realty Trust, Inc.
Procter & Gamble Company
Reynolds American, Inc.
Republic Services, Inc.
Cracker Barrel Old Country
Automatic Data Processing
Alliant Energy Corporation
Air Products & Chemicals, Inc.
Genuine Parts Company
NorthStar Realty Finance - Preferred C
As I mentioned in a recent article, this revised watch list was put together using companies that I already had my eye on, plus a healthy addition of companies from David Van Knapp's list of what he thought would be the Top 40 Dividend Companies for 2013. There are some great companies on this list, along with some less known names to go along with some venerable favorites.
(* = Please note that there may be some debate about what the actual CDR number is for VTR; I have used the data that is available to me, but some of you might calculate it to be somewhat lower. )
Now came the hard part: Deciding where to put the newly liberated funds. Since MO came out well on top of the heap, and it is a well-known dividend provider, currently yielding about 5.19% and continuing to rise steadily, I decided to go ahead and make it my first (somewhat obvious) choice. One reason that may not be too obvious as to why I might have skipped over adding MO to my portfolio (again) is that I already hold Lorillard, Inc. and Philip Morris International (PM), two of the other tobacco giants. I've been reluctant to add yet a third tobacco company to the stocks in my portfolio, but felt that the time had come to finally embrace MO and include it in the family. Dividing my funds up as evenly as I could (but also holding a little bit back to add to an existing position, which I'll get to here in a bit) I was able to pick up enough shares of MO to give me a 1.86% allocation of it in my portfolio. Not a bad start.
The choice of the second stock to add was a bit more challenging. Next on the list above was SJR, something I've been keeping my eye on for some time as well. However, I already have two cable operators in my wife's IRA, Cablevision Systems Corporation (CVC) and Rogers Communications, Inc. (RCI), and have been considering SJR to be the next stock that I add to her (considerably smaller) portfolio. Adding SJR there would give me good coverage of the cable business, especially in Canada, but would also keep the amount of dollars allocated to SJR, and cable in general, somewhat more balanced in terms of what we held together as a family than if I added an even larger number of shares of SJR to my IRA. So I decided to pass on SJR for my IRA, but to keep it firmly in mind for adding to my wife's once I have enough free cash to make a contribution to that account.
BAX was ranked next on my watch list, and while it had a decent CDR of 19.2%, it only has about a 2.81% yield, and when I plugged it into my spreadsheet to calculate possible dividends, it wasn't going to pull its weight in terms of bringing in more dividends in the next year compared with the dividends that I'd lost by shedding the shares that I had sold. So I moved on to the next pick on the list, TGH, and really liked what I saw. Not only does TGH have a great 5.20% yield, but it also received the #1 unweighted MyMM Rank, in addition to the #4 Weighted MyMM Rank. This bode very well for achieving my goal of significantly increasing the income from dividends that I would receive by this round of taking profits and re-investing them, despite TGH not being a CCC company (yet).
So, after plugging in the numbers of a few more of the top contenders into my spreadsheet to be sure of my decision, I settled on adding a 1.96% allocation of TGH to my IRA. Along with the addition of MO, this raised the number of positions in my portfolio from 31 to 33. This, in turn, dropped the parity target from 3.23% to 3.03%, which allowed a few stocks that had been "just below" parity to make it over that target.
That left a small but still healthy chunk of cash to invest in one of my existing positions. Looking over the stocks that were below parity (and which I was interested in adding to), and weighting them 25% by their CDR numbers (Yield and 5 Year Dividend CAGR) and 50% by their % Allocation in my portfolio already, the following options presented themselves to me:
Omega Healthcare Investors, Inc.
BHP Billiton plc
National Presto Industries
National Grid, plc
Kimberly Clark Corp
This was an easy choice, since OHI was by far the furthest away from the new parity target of 3.03%. It didn't hurt that it also has a great 6.20% yield, which helped maximize the increase in dividends that I should see in the next year over those that I lost from the shares that I sold. I was thus able to add 22.9% more to my existing position in OHI.
So with all of the changes made to my portfolio recently, the net result is that when I took the money that was generated from the sale of a few shares of some stocks that have performed very well for me, and I reinvested that cash into two new positions (MO and TGH) as well as adding more shares to an existing position , I was able to literally double the amount of dividend income that will be generated by what I bought compared to what I sold. The actual figure is an increase of 99.42% in annual dividend income, but that's close enough for me say that I've doubled the future income from the profits I've reaped.
And now I've got even more positions that are well below the new parity of a 3.03% allocation to work with in the coming months as I work out where to put future dividend payments to continue to increase the income that my IRA portfolio generates.
Additional disclosure: Disclaimer: I am not a professional investment advisor or financial analyst; I’m just a guy who likes to crunch numbers and can make an Excel spreadsheet do pretty much whatever I want it to do, and I’m doing my best to manage my own portfolio. This article is in no way an endorsement of any of the stocks discussed in it, and as always, you need to do your own research and due diligence before you decide to trade any securities or other products.