Building an Optimal Dividend Portfolio: Keep It Simple

by: Jim Trippon
A popular acronym that traders like to throw around a lot is KISS. Translation: Keep it simple, stupid. Truer words have never been spoken. I certainly don't want to imply anyone reading this lacks intelligence, but it pays to remember the KISS principle can be applied to investing or holding periods that are longer than the typical intraday or swing trade. In fact, even conservative, income-minded investors can apply the virtues of KISS to successfully build a winning dividend portfolio.

Keeping things simple is especially valuable advice when it comes to dividend investing. Knowing that dividends, particularly when reinvested, account for a substantial chunk of a portfolio's return over time is a starting, but smart investors will not and should not stop there. Consider knowing that dividends are important the elementary part of today's lesson.

Fortunately, we can keep things simple to build an optimal dividend portfolio with these steps.

Invest In Companies You Understand

You've probably heard that Warren Buffett doesn't invest in technology stocks and he has basically said the reason for this is he doesn't understand the business. If it's important for one of the greatest value investors of all time to understand what the companies do that he invests in, it's important for so-called “average investors.”

Look at it this way: Most companies pay cash dividends, so understanding how that company makes its profits is critical because the profits cover the dividend. If it's just too hard to figure out how a company is paying its bills and generating profits, move on to another stock.

Pay Attention To Dividend Growth Rate

In the essence of keeping things simple, you certainly don't want to be stuck holding the bag on a dividend cutter. Equally important is owning stocks with growing dividends. If a dividend stock is paying an annual dividend of $1 a share in 2010 and is still paying that same dividend in 2020, that's better than nothing, but it also means there are plenty of other better dividend payers out there.

Ideally, that dividend would grow to $1.20-$1.25 by 2015 and $1.40 or higher by 2020. Fortunately, that kind of dividend growth is obtainable with familiar names. Just look at the dividend growth over time for Abbott Labs (NYSE: ABT).

Simple Steps To Building An Optimal Dividend Portfolio

Be Diverse

This step should apply to all corners of long-term investing. Don't over-expose yourself to one sector just because its chock full of high yielders or fat payouts. For example, I love MLPs and that trade has worked going back to 2009, but I would never advise a client or a subscriber who only wants to own, say 10 dividend stocks, that all 10 should be MLPs. Proper sector allocation should not be overlooked.

Emphasize Dividend Track Record

This is something I harp on a lot, probably because I see little value in owning a stock that raises its dividend one year and doesn't do so again for three, five, 10 years or longer. With so many stocks having dividend increase streaks that span multiple decades and some that raise their payouts more than once a year, there's no reason to for income investors to be involved with sporadic dividend raisers.

Bottom line: Keep dividend investing simple and watch your portfolio grow.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.