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Summary

  • Revisions to the portfolio reflect a greater priority on dividend growth.
  • Four Dividend Champions have been added to the portfolio since 12/31/13.
  • WGL Holdings was discovered by gleaning David Fish's list of Dividend Champions.

This is the first of a three-part article to describe recent changes in my Retirement Income Portfolio.

At 12/31/13, there were 40 holdings in the portfolio. Eighteen of them had increased dividends or distributions for at least ten consecutive years. Of those, eleven were "Dividend Champions," growing the payout for at least 25 years.

At present, there are 45 holdings in the portfolio. Currently, 22 companies have raised payouts for at least ten consecutive years. During Q1 2014, four Dividend Champions were added to the portfolio, bringing the total to 15: Procter & Gamble (NYSE:PG), PepsiCo (NYSE:PEP), WGL Holdings (NYSE:WGL), and HCP Inc (NYSE:HCP).

So, almost half the portfolio has annual dividend increases of 10+ years and one-third of the portfolio has increases of 25+ years. I have been influenced by the good work of David Fish, Chowder, David Van Knapp, Bob Wells and many other dividend growth investors.

Procter & Gamble

Procter & Gamble is a familiar name to dividend investors. It is a giant in the consumer staples sector. At a 4/14/14 price of $80.76, the Price/Earnings ratio was 22, well above its five-year average PE of 17. The current yield is 3.2%, below the high yield seen in each of the past five years, which ranged from 3.3% in 2011 to 3.8% in 2013. (Morningstar indicates PG's high yield was 4.6% in 2010, but this was an anomaly when the price briefly dropped to $39.37 during the "Flash Crash" on May 6. PG closed that day at $60.75.)

I completed a Stock Selection Guide on PG. (You can find information about this basic stock study tool at BetterInvesting.org.) I projected a possible high price during the next five years of $102, and a possible low price of $54. This study determined a "buy" price target of $66.09 and a "sell" price target of $90.15.

The current price of $80.76 reflects a potential annual return of about 8% including dividends over the next five years. If you can get PG at the target "buy" price of $66.09, the potential annual total return would be over 13%. If you have the patience to be a bear market "bottom fisher," and snag PG at my projected possible 5-year low price of $54, the annual total return would be over 20% (if PG subsequently reached $102).

When I purchased PG at $77.02, I was aware that the stock was trading at a premium to most of its metrics, and it was trading above my target "buy" price. I purchased PG because of two factors: (1) the yield at the time of purchase was 3.1% and (2) PG has raised its dividend annually since 1957. According to David Fish, the 5-year dividend growth rate has been 8.8% and the "Chowder Rule" number is 11.8% (the DGR plus the current yield).

PepsiCo

PepsiCo is another old, familiar name in the consumer staples sector. In my view the current unpopularity within the investment community toward carbonated soft drinks is somewhat offset by PEP's other businesses, including Frito Lay snacks and Quaker Oats. PEP has raised the dividend annually since 1972.

At a 4/14/14 price of $83.15, the PE ratio was 19, above its five-year average PE of 16. The current yield is 2.7%, below the high yield reached in each of the past five years, which ranged from 3.2% in 2010 to 4.1% in 2009. In the past three years, the high yield has been 3.5% (2011), 3.4% (2012), and 3.3% (2013). The decreasing yield clearly reveals PEP's price appreciation during the current bull market. (PEP "pre-announced" its new dividend, which takes effect this summer, of $2.62. While the current yield is 2.7%, the indicated yield is now 3.15%.)

My Stock Selection Guide on PEP projected a possible high price during the next five years of $105, and a possible low price of $56. This study determined a "buy" price target of $68.49 and a "sell" price target of $92.94.

The current price of $83.15 reflects a potential annual return of about 8% including dividends over the next five years. If you can get PEP at the target "buy" price of $68.49, the potential annual total return would be over 13%. If PEP were to reach my potential 5-year low price of $56, the annual total return would be almost 20% (if PEP subsequently reached $105). My total return computations for PEP and PG were very similar.

When I bought PEP at $78.16, my reasoning was similar to the PG purchase. PEP was yielding almost 2.9% and had already announced the aforementioned dividend boost that put the forward yield at 3.35%. According to David Fish, the 5-year dividend growth rate has been 7.0% and the Chowder Rule number is 10.1.

WGL Holdings

WGL Holdings, Inc. is a utility that until recently had escaped my consciousness. Founded in 1848 as Washington Gas Light Company, it has been known as Washington Gas. WGL Holdings was created in a 2000 restructuring. Washington Gas remains the company's leading subsidiary, serving more than one million customers in the District of Columbia, Maryland and Virginia.

In January, my wife created her own portfolio and in that process she closely examined David Fish's Excel spreadsheet (for Champions, Contenders and Challengers). It was an enlightening exercise for both of us as she peppered me with questions about the companies on David's spreadsheet. When my answer was, "I don't know," she was particularly interested because she was looking for stocks I had not yet discovered. The final company (alphabetically) on David's list of Champions is WGL Holdings. As I relayed information to her about WGL, I became intrigued. WGL has increased the dividend annually since 1977.

WGL operates in four segments: Regulated Utility sells and delivers natural gas to retail customers and owns full and partial interests in underground natural gas storage facilities; Retail Energy-Marketing sells natural gas and/or electricity directly to residential, commercial and industrial customers; Commercial Energy Systems provides energy efficiency and sustainability solutions to governmental and commercial clients; and Midstream Energy Services engages in developing, acquiring, managing and optimizing natural gas storage and transportation assets.

WGL appeared undervalued when I bought shares at $36.55. The dividend at that point was $.42 per quarter or $1.68 annually, for a yield of 4.6%. WGL has subsequently raised the dividend to $.44 per quarter or $1.76. At a 4/14/14 price of $38.88, the yield was 4.5%.

At a 4/14/14 price of $38.88, the PE ratio was 43, due to the company posting a $1.00 per share loss in Q4 2013 (ending 9/30/13). This was caused by mild weather and reduced gas sales, and to competitive pressures in their electric distribution business. WGL's five-year average PE is 17. The current 4.5% yield is relatively attractive compared with its high yield in recent years: 8.1% in the recession year of 2009, 4.8% in 2010, 4.4% in 2011, 4.3% in 2012, and 3.4% in 2013.

My Stock Selection Guide on WGL projected a possible high price during the next five years of $56, and a possible low price of $35. This study determined a "buy" price target of $40.60 and a "sell" price target of $50.80.

The current price of $38.88 reflects a potential annual return of about 11% including dividends over the next five years. According to David Fish, the 5-year dividend growth rate has been 3.4% and the Chowder Rule number is 7.7.

In my evaluation of WGL, its mediocre growth record and earnings stumble in 2013 were offset by what appears to be a forward-looking management team. The company has achieved regulatory approval for recapturing costs related to updating its gas infrastructure.

Washington Gas Energy Services executed a three-year contract to supply the historic DC Union (NASDAQ:RAIL) Station in DC with 100% wind power for its annual electricity load of nearly 19 million kilowatt hours. This is equivalent to avoiding consumption of more than 1.4 million gallons of gasoline or taking more than 2,700 cars off the road annually.

In 2013, the company launched PA WindPower, offering Pennsylvania residents and businesses electricity generated exclusively at in-state wind farms. The company designs, builds, operates and owns on-site energy systems including solar, hybrid, fuel cell and other clean technologies.

Washington Gas Energy Systems provides cost-effective solutions to government, institutional, commercial and residential customers across the nation. In 2013, the company surpassed $100 million in commercial solar system investments and now owns or operates more than 32 megawatts (NYSE:MW) of installed capacity in more than 10 states, with another 22 MW currently under contract and in development.

Within this segment, WGL partners with companies such as SunEdison, Skyline and American Solar Direct (ASD) to bring solar energy solutions to residential and commercial customers across multiple states. In southern California alone, the ASD partnership has installed solar systems in nearly 3,000 homes. A relationship with Sol Systems, a Washington, D.C.-based firm, brings solar photo- voltaic systems to commercial customers in the District of Columbia, Maryland and Hawaii.

WGL Midstream manages a portfolio of natural gas storage and pipeline assets, and increase efficient access to supply for wholesale customers. The company is partnering with Constitution Pipeline to build a 124-mile pipeline to transport natural gas from central Pennsylvania to major northeastern markets to serve as many as three million homes by 2015. WGL is a small utility with a big vision.

HCP, Inc

HCP is a self-administered real estate investment trust which acquires, develops, leases and manages healthcare real estate and provides financing to healthcare providers. It and Ventas (NYSE:VTR) are the two largest healthcare REITs.

HCP is the only healthcare REIT among David Fish's Dividend Champions. According to David Fish, the 5-year dividend growth rate has been 2.9% and the Chowder Rule number is 8.5. The DGR is unimpressive and the company has a new CEO, Lauralee Martin.

HCP has increased the dividend annually since 1986. In my study, the recent lackluster dividend growth and the unknowns regarding the new CEO were offset by the history of dividend increases and the depressed market price.

During the past five years, the high yield for HCP was 12.3% in the recession year of 2009, 7.0% in 2010, 6.7% in 2011, 5.3% in 2012, and 5.9% in 2013. The bull market pattern of falling dividend yields (and rising prices) was reversed in 2013, partly due to the May 2013 Taper Scare" that hurt REITs across the board, and HCP's abrupt change of CEOs.

The current dividend is $.545 per quarter, or $2.18 annually. I bought shares of HCP at $38.76, for a yield of 5.6%. At a 4/14/14 price of $40.53, the current yield was 5.37%.

My Stock Selection Guide for HCP indicated a possible high price during the next five years of $70, and a possible low price of $35. The study determined a "buy" price target of $44.10 and a "sell" price target of $61.30.

Additional Portfolio Changes

The following companies were added to the portfolio since year-end:

Triangle Capital Corporation (NYSE:TCAP)

Main Street Capital Corporation (NYSE:MAIN)

BCE Inc (NYSE:BCE)

American Realty Capital Properties Inc (NASDAQ:ARCP)

Deere & Company (NYSE:DE)

Tupperware Brands Corporation (NYSE:TUP)

Mattel Incorporated (NASDAQ:MAT)

In part two of this article, I will detail the purchases of TCAP, MAIN and BCE. I will also present the portfolio in its entirety in table format (as in previous articles).

In part three of this article, I will detail the purchases of ARCP, DE, TUP and MAT. I will also discuss my rationale for closing the positions of the stocks listed below. I have already described the sale of PSEC in a March 16 article about The BDC Portion of My Portfolio.

Positions closed since year-end:

Hasbro, Inc (NASDAQ:HAS)

Prospect Capital (NASDAQ:PSEC)

Orchids Paper Products Company (NYSEMKT:TIS)

Royal Dutch Shell plc (NYSE:RDS.B)

Natural Resource Partners LP (NYSE:NRP)

Eaton Vance Tax-Managed Buy-Write Opportunity Fund (NYSE:ETV).

I present this as part of an ongoing chronicle of how I am approaching my retirement income portfolio. It is not a recommendation to buy or sell any security. Everyone's situation is different. It is crucial that you perform your own due diligence. These "long" positions are presented to give you some ideas for stocks to study. Just because a positiion has been closed does not mean I have a negative view of these investments. Sometimes a sale was made to take a profit or to rebalance the sector allocation of the portfolio.

Source: Retirement Income Portfolio: A Stronger Focus On Dividend Champions