- By using simple, easy to follow criteria you can create a successful DGI portfolio.
- I have begun to trim positions which become overvalued.
- During difficult market conditions my portfolio has been able to outperform both the S&P and SDY.
It's been a rocky first quarter for the stock market. And therefore it has been a perfect environment to show the benefits of DGI. It was easy to have a good performance last year when the S&P was up over 30%, and dividend stocks in general performed very well. It was a "rising tide lifts all boats" environment. But this year, with such a rough month of January, a big drop this past week, and the S&P being down almost 2% for the year, it's been a perfect opportunity to see how my portfolio would perform during a tough time in the market. After all, it is during a flat to down market when you would expect a DGI portfolio to outperform.
Over the past year and a half I have been developing and refining my Keep It Simple, Stupid (KISS) system for creating a dividend growth portfolio. The system I developed has been discussed here, and in my previous updates, but as a quick summary my criteria for buying stocks are as follows:
For Purchase of Regular stocks
- The stock is on the Dividend Champions, Contenders and Challengers ((NYSE:CCC)) list (as compiled by David Fish)
- The Yield >3%
- The Payout ratio < 60%
- The Chowder Number >12%
- A Quality Rating of A- or better from S&P
- FAST Graph shows a 10 year uptrend in earnings
- FAST Graph shows that the stock is not overvalued.
As of this update I have increased my yield criteria from 2.5% to 3%. I am soon to turn 50 and I feel I need to stick with higher yielding stocks. Since I'm getting closer to retirement I don't have as much time as I used to to depend on low yielding stocks with higher dividend growth. This doesn't mean I am going to sell my lower yielding, higher dividend growth stocks presently in my portfolio, but I will limit my new purchases to stocks yielding at least 3%.
For Purchase of MLPs, REITS and utilities
- The stock is on CCC list
- Yield > 3%
- Chowder Number > 8%
- DGR for all time periods (1yr, 3yr, 5yr and 10yr) at least 4%, but also consistent over all time periods.
- FAST Graph shows a 10 year uptrend (or the life of the company, if less than 10 years) in Funds From Operations (FFO).
- FAST Graph shows that the stock is not overvalued.
For Sales of any Position
- The Stock cuts or freezes its dividend
- The Stock becomes over valued, 2 years ahead of where the price should be based on its consensus earnings and normalized PE ratio, as per FAST Graphs.
This second sell criteria is a new criteria, and I would like to discuss this before proceeding on to the rest of my portfolio update.
In developing my KISS system, I set up a group of criteria that I use to make all of my stock purchases and sales. I feel that by setting up well thought out rules you can take emotion out of your decision making, preventing you from making some of the more common investing mistakes. Part of this process was setting up rules for rebalancing my portfolio. As I've been carrying out ((NYSE:DGI)) over the past year and a half, "rebalancing" did not mean the same to me as it might mean to other investors. For me it described how I reinvested, on a quarterly basis, the dividends I had collected over the past three months, as well as my most recent 401K contributions. The way I did this was to use my PAAY system (as described in this article) to determine which of the stocks that I own would receive more funds. I did not plan to sell any shares during my "rebalancing" to truly keep my stock positions balanced, as other investors might do. I felt that if any of my stocks became over weighted then I would stop buying more shares of that stock, but I would not sell some of the position just to bring it back into balance. I would let it continue to grow.
But as I've discovered, not only have some of my stocks become larger, in terms of size of position, than the other stocks in my portfolio, but they have also become overvalued. Over the past few months, I watched Boeing (NYSE:BA) rise to over $144, before falling back to the $120's. I felt that BA was overvalued at $144, but my rules told me not to sell any of it since it did not cut or freeze its dividend. So I held it and watched the price fall back. Don't get me wrong, I have not been losing sleep over the drop in BA's price, and I'm still quite happy with its over all performance since I've owned it, but I felt like maybe I could have come up with some way to take some profits off the table when I felt it became overvalued. Another problem I began to encounter was that as my stocks increased in price, my portfolio yield fell. This also is a problem I'm not going to complain too much about, but I was trying to maintain a certain over-all yield of my portfolio, and the increase in prices kept decreasing my portfolio's yield. I felt like I should be able to sell some of these overvalued stocks, and use that money to buy other undervalued stocks. In this way my long-term results should improve. But how do I figure out when/if to sell? I needed to come up with a way that would fit in with my KISS system: simple, easy to understand, and effective.
As with almost everything else I've learned about DGI I found the answer on SA. Or, I should say, I found an answer I am comfortable with. I read all of Chuck Carnevale's articles, and in one of his articles he stated that if a stock's price gets two years ahead of itself, based on its normalized earnings projection, he will sell it. Since I already use FAST Graphs to determine if a stock is a good value for purchase, then it made perfect sense to me that I should also be willing to use FAST Graphs to determine if a stock is overpriced. So, for example, the FAST Graph of BA shows that, based on its consensus earnings over the next few years, and a normalized PE, it shouldn't reach a price of $123 until 2016.
At $144 it was 4 years ahead of schedule, not expected to reach that price until 2018, but even with the drop to the 120's it was still overpriced. So, since this is an indication that BA is 2 years ahead of itself, it is reasonable to sell it.
Notice that this differentiates between a stock which has increased in price significantly, but is still fairly valued, and one which has become overvalued. I will not sell a stock just because it has increased significantly in price. I will only sell if it is overpriced. Take Lockheed Martin (NYSE:LMT) for example. I bought LMT for $94.56 in Jan '13. Since that time it has increased 62%. But the FAST Graph shows that it is just now becoming fairly valued.
Even with the large price increase it has not yet become overvalued. So, even though LMT has become an overweight position in my portfolio due to its large price increase, I will not sell any of it, because it is not yet overpriced.
So now one of my rules has changed. Previously I would only sell due to a dividend cut or freeze. But now I have decided that I will also sell a stock that has become overpriced as per its FAST Graph, AND if it has become an overweighted position in my portfolio. But this does not mean I will sell the whole position. I will simply trim the position to bring it back in line with the size of an average position. Only if a stock cuts or freezes its dividend will I sell the whole position.
Now back to my update.
Contributions and dividends
These are the total dividends I received over the past three months, and the comparison to the same months during 2013:
Jan $1611.88 ($1751.06) (-8.6%)
Feb $2479.61 ($1192.11) (+108%)
Mar $3238.59 ($2117.01) (+53%)
Total dividends collected in the first quarter -- $7,330.08 (some was used for automatic DRIPs)
Total first quarter pension contributions -- $14,125.02
Dynex (NYSE:DX) announced a dividend cut on March 18th from .27 for the quarter to .25. I immediately sold the stock, but was still able to make a small profit of about 3.85%. I sold 1622 shares at a price of $8.97-8.99 (commission of $30.56) for a total of $15,064.43.
As per the above discussion about rebalancing I sold 36 Shares of BA for $127.70 per share (commission of $1.08) for a total of $4596.12.
For the same reason, because the price got too far ahead of its earnings, I sold 65 shares of Walgreen's (NYSE:WAG) for $65.90 a share (commission of $1.95) for a total of $4281.55.
In January Oneok (NYSE:OKE) spun off One Gas, Inc. (NYSE:OGS) so I received 67 shares. Not knowing what the dividend policy would be for OGS, I decided to sell it. I sold 67 shares for $36.00 per share (commission $8.95) for a total of $2,403.05.
So, by the end of this quarter, including cash left over from the previous quarter's purchases ($844.15), I had $47,800.25 to invest. Some of this went towards some DRIPs. I will list those below.
After running my screen, the following regular stocks passed my criteria:
The following MPLs, REITs and Utilities also passed the modified criteria:
El Paso Pipeline (NYSE:EPB), AmeriGas Partners (NYSE:APU), Kinder Morgan (NYSE:KMP), Digital Realty (NYSE:DLR), Holly Energy Partners (NYSE:HEP), W.P. Carey (NYSE:WPC), Omega Healthcare (NYSE:OHI), Alliance Resource Partners (NASDAQ:ARLP), HCP Inc. (NYSE:HCP), Realty Income Corp (NYSE:O), Alliance Holdings (NASDAQ:AHGP), National Health Investors (NYSE:NHI), Brookfield Infrastructure (NYSE:BIP), Dominion Resources (NYSE:D), New Jersey Resources (NYSE:NJR), South Jersey Industries (NYSE:SJI), Wisconsin Energy (NYSE:WEC), Equity Lifestyle Properties (NYSE:ELS), Simon Property Group (NYSE:SPG), NextEra Energy (NYSE:NEE)
I already owned many of these companies, and of the ones I didn't already own, most were energy companies. Even though I liked the dividends they offered, I didn't want to buy another energy company. I already own plenty, and for diversification purposes I wanted to go in a different direction. So instead I chose to purchase a stock that appeared on my screen for the very first time.
Tupperware has a yield of 3.25%, a payout ratio of 52%, and a 5 year dividend growth rate of 20.3%. It has a quality rating of A+, and the FAST Graph shows a strong up trend in earnings, and reasonable valuation.
I purchased Tupperware 180 shares at $84.46 (commission $5.40) for a total of $15,208.20.
Every quarter I evaluate all the stocks in my portfolio and rank them based on their Percentage Above Average Yield (PAAY). I have already written an article about this so I won't go into the details here. Suffice it to say that stocks that have a yield higher than they usually do, either due to a drop in the stock price, or an increase in the dividend, may be undervalued. I consider the stocks in my portfolio with the highest PAAY to be the most undervalued. Therefore these are the stocks that I buy more of when reinvesting my dividends. Usually I spread the reinvestments evenly amongst the stocks I am purchasing, but this quarter I decided to add extra to certain stocks to bring them up to full positions. This is why some stocks below received more funds than others.
Cincinnati Financial (NASDAQ:CINF)
General Electric (NYSE:GE)
I also received the following shares due to DRIP plans in my Optionsxpress account:
Kinder Morgan (NYSE:KMR)
Wells Fargo (NYSE:WFC)
Finally, I decided to break my DGI rules to buy one specific stock. I previously owned Annaly Capital Management (NYSE:NLY), the mortgage REIT, but sold it last year when it cut its dividend. But I enjoyed the large dividend it paid, and even with the recent dividend cuts, I feel it is a strong, reliable company. It has been paying healthy dividends for over 17 years and has returned over 11% annually during that time. Since I sold DX this quarter, and lost that large dividend, and since I always had a desire to own NLY again, I decided to go ahead and use the proceeds from the sale of DX to put NLY back into my portfolio. I will consider this to be a position outside my DGI portfolio, and will hold onto it through the ups and downs of the dividend that is typical of NLY.
I purchased Annaly 1180 shares at $10.97 (commission of $26.85) for a total of $12,971.45.
Following these transactions this is the present composition of my portfolio (as of 4/10/14)
Estimated Ann Inc
AFLAC Inc. (NYSE:AFL)
Air Products (NYSE:APD)
Alliance Resource Part.
Annally Capital Mngmt.
Becton Dickinson (NYSE:BDX)
BHP Billiton (NYSE:BBL)
Brookfield Infrastr. Part.
Buckeye Partners (NYSE:BPL)
Cincinnati Financial Corp
CSX Corp (NYSE:CSX)
Darden Restaurants (NYSE:DRI)
Deere & CO (NYSE:DE)
Emerson Elec Co (NYSE:EMR)
First of Long Island (NASDAQ:FLIC)
General Dynamics (NYSE:GD)
Harris Corp (NYSE:HRS)
Hasbro Inc (NASDAQ:HAS)
Illinois Tool Works (NYSE:ITW)
Johnson & Johnson (NYSE:JNJ)
Kinder Morgan Management
L-3 Communications (NYSE:LLL)
Lockheed Martin Corp
Medtronic Inc (NYSE:MDT)
Microsoft Corp (NASDAQ:MSFT)
Norfolk Southern (NYSE:NSC)
Paychex Inc (NASDAQ:PAYX)
Pepsico Inc (NYSE:PEP)
Pimco Corporate & Income (NYSE:PTY)
Plains All American Pipeline (NYSE:PAA)
Procter & Gamble (NYSE:PG)
Qualcomm Inc (NASDAQ:QCOM)
Raytheon Co. (NYSE:RTN)
Realty Income Corp
Sysco Corp (NYSE:SYY)
UGI Corp (NYSE:UGI)
United Technologies (NYSE:UTX)
Wal-Mart Stores Inc (NYSE:WMT)
Wisconsin Energy Corp
Williams Partners (NYSE:WPZ)
Results and Conclusion:
Since January 1st my portfolio's value, not including pension contributions, has increased from $811,652.89 to $830,101.99 (the contributions bring the value up to $844,227.01 as of 4/11/14). This is an increase of 2.28%. The S&P 500 is down 1.77% during that time, so my portfolio is doing very well compared to the market. Dale Roberts (aka Cranky), one of the SA contributors I enjoy reading, suggested that I compare my portfolio to the SPDR S&P dividend ETF (NYSEARCA:SDY), a dividend ETF that tracks the Dividend Aristocrats, because it would be a better comparison for how my DGI portfolio is doing. SDY is up 0.16% this year, including its dividend payment, so I am outperforming SDY by over 2% for the quarter. I know that some DGIers don't compare their portfolios to benchmarks, preferring just to make sure they are attaining their own goals, and I respect that position. But for me, I want to know that the efforts I am putting into running my own portfolio are worthwhile. If I'm not doing as well as these benchmarks then it would make more sense for me (just for me, not for anybody else) to just buy SDY and save the effort. So it is very satisfying for me to see that my portfolio is performing very well in comparison, both last year, and the first quarter of this year.
As for my dividends, the dividends I collected this first quarter of 2014 are 50.2% higher than the dividends I collected the first quarter of 2013. The amount of dividends I expect to collect in the next 12 months (ED12) is $30,389.08, a 4.77% increase over my previous update, and a 35.2% increase from the first quarter of 2013. The present yield of my portfolio is 3.58%.
I am very pleased with my results. It shows that a DGI portfolio can outperform during difficult market periods, and that by using simple, straightforward criteria for buying and selling, someone can achieve excellent investment results without having to put an inordinate amount of time into it.
Thank you for reading my article. I welcome your comments and criticisms.