Dividend Gain And Opportunity Again Despite Portfolio Pain

by: Mike Nadel

January was not kind to our portfolio, and February has started out even nastier. What did we ever do to Mr. Market, anyway? I mean, we spent most of 2012 and 2013 giving him lots of money and telling him how fabulous he was.

And this is the thanks we get?

OK, maybe this is exactly the thanks we get. For those of us who have a little money available, maybe this is the start of a great opportunity to build future wealth and a healthier income stream.

Don't bash cash

From Jan. 2 through Monday (the first trading day of February), our portfolio was down 3.7%. I guess my wife and I should consider ourselves fortunate, as the S&P 500 was down 5.8% in the same span.

Actually, there's nothing lucky about it. We didn't gain quite as much as the S&P 500 when Mr. Market was rocketing through the stratosphere, and now our losses aren't as severe with him falling back down to earth. That's not an accident; it's by design.

Above and beyond our emergency fund, cash makes up about 15% of our portfolio. Over the last year, we shifted our investment strategy to concentrate even more on high-quality, dividend-growing companies. More recently, we have built up our core holdings while adding some new satellite positions, but we're nowhere near "all-in."

Many Seeking Alpha contributors and readers I truly respect prefer being fully invested at all times. I, however, like holding some cash -- both as ballast for an otherwise stock-heavy portfolio and as dry powder to take advantage of major opportunities, such as those provided by a steep pullback or correction.

"But you're not putting all of your cash to work!" my fully invested friends sometimes say. Well, not putting it all to work has worked out nicely so far in 2014. It has kept us from losing another 2% (or 4% or 6%) of our portfolio while positioning us for some bargain shopping.

Mr. Market, meet Mr. Correction?

Since 2012, many pundits have been predicting a correction, which is defined as a market decline of 10% or more. Of course, they eventually have to be right, and maybe their time has come. Though a correction has not technically arrived yet, many individual companies -- including some Dividend Growth Investing favorites -- have suffered double-digit declines.

For example, Philip Morris International (NYSE:PM), which closed at $91.64 on Nov. 11, hit its two-year low of $75.28 Monday, an 18% loss. Target (NYSE:TGT) traded at $72 just six months ago but could be had near $55 Monday, a 24% fall.

For a variety of reasons, those companies' woes got a head start in 2013 before picking up steam this year. Other blue chips were flying high until New Year's Day but have been free-falling since.

ExxonMobil (NYSE:XOM) is 11% off its year-ending price of $101.20. 3M (NYSE:MMM), which traded at $140.25 as 2014 dawned, has declined 12%. General Electric (NYSE:GE) closed at $24.35 Monday -- 13% below its $28.03 of New Year's Eve.

It seems the Santa Claus Rally took place as scheduled, but somebody forgot to remind Mr. Market that the bullish "January Effect" was supposed to follow. Blame the confluence of disappointing earnings reports, distress in emerging markets, tapering of Fed monetary policy and other factors -- including plain, old-fashioned fear.

What next?

We have used the downturn to top off our ExxonMobil, Philip Morris, Chevron (NYSE:CVX) and Altria (NYSE:MO) holdings, as well as to initiate positions in AT&T (NYSE:T) and Kraft Foods (KRFT). Each has become moderately to significantly undervalued and each is offering investors rarely seen dividend yields.

With the pullback nearing correction territory, I am focusing my research on our watch list. Companies there include Avista (NYSE:AVA), IBM (NYSE:IBM), PepsiCo (NYSE:PEP), Unilever (NYSE:UL) and many others. We might dabble in low-yield, high-DG stocks such as Costco (NASDAQ:COST) or Starbucks (NASDAQ:SBUX), which finally aren't crazy overvalued, or maybe we'll make small speculative plays on high-yielders like SeaDrill (NYSE:SDRL) and Prospect Capital (NASDAQ:PSEC).

From here, we are going to tread carefully and treat our cash with the respect it deserves. The word "bargain" is being thrown around a lot -- heck, I used it earlier in this article -- but it's no bargain to buy a company that has lost 20%, if another 20% of pain is in the offing.

While acknowledging how difficult it is to recognize when a stock has hit bottom, I nevertheless will try to be as informed as possible before tapping the "buy" button.

DGI equals comfort

Watching the paper value of one's portfolio shrink is never easy. At the same time, watching real income increase markedly has reinforced my belief that Dividend Growth Investing is the right strategy for us.

We received 15% percent more dividends in January than we did in October, 46% more than in July and an incredible 99% more than in January 2013. Some of that can be explained by our decision to use a new brokerage option within my wife's 401(k), but it's mostly because we bought proven income-growing companies and compounded our gains by reinvesting dividends.

As I revealed in my previous article, our short-term goal is to have $25,000 in annual dividends coming in by the end of 2014. That will put us on pace to reach our long-term goal: monthly income of $3,000 (in today's dollars) by 2023, when my wife turns 62.

Thanks to the rapid growth of our dividends, we are 97% of the way toward that $25K.

Last week, our reinvested GE dividends bought 10.6 new shares at a favorable price. And so it will continue. Our divvies bought additional General Mills (NYSE:GIS) and Deere (NYSE:DE) on Monday, and February also will see more Kinder Morgan Inc. (NYSE:KMI), Main Street Capital (NYSE:MAIN), Omega Healthcare Investors (NYSE:OHI) and Procter & Gamble (NYSE:PG) coming our way.

It's a comfort knowing that even in a correction (or worse), our income will increase -- as will our stakes in businesses we hope to own for years or even decades. Someday, our dividends will provide a major part of our living expenses, and it's nice that we won't have to sell stock in a declining market just so we can pay our bills.

Conclusion: Hang in there!

Everyone's a genius when the bulls are running wild. How will I (and other relatively new DGI practitioners) react now that Mr. Market has gotten downright ornery?

Well, investors who emerged from the Great Recession in the best financial shape were those that didn't sell at the bottom -- and, in fact, were greedy when others were fearful.

Although I was too clueless and chicken to buy in 2008-09, at least I didn't panic-sell. So I certainly don't expect to get unnerved in 2014 ... and neither should anybody else who has confidence in Dividend Growth Investing and a better understanding of Mr. Market's mercurial ways.

Disclosure: I am long CVX, DE, GE, GIS, KMI, KRFT, MAIN, MMM, MO, OHI, PG, PM, T, TGT, XOM. 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. I also might buy any of the companies named in this article in the coming days.