Every month on the 8th and the 24th, I invest €1000 in new stocks. In 15 years my stock portfolio will grow large enough for me to be able to pay off all my monthly expenses with dividend income alone. On that day (on my 59th birthday) I can effectively retire.
I've been investing since August 2014 and today I am invested in 8 stocks. The date today is December 10, 2014, which means it's time to make a new purchase. Here's my current watchlist with possible candidates:
Adding to the pressure is my recent discovery that I have been turning a blind eye to DPR and DPS/EPS growth. More than half of the stocks in my portfolio are in danger of being "maxed out" on dividends. I need to pick good growth candidates from now on.
So how do I choose which company to buy?
Chowder Discount Rank
I like to buy companies that have their financial history in order. That means a high yield combined with solid DPS and EPS growth. There are two common metrics for measuring past performance:
The Chowder number
The Chowder number is the sum of the yield and the compound annual DPS growth. A Chowder number of 12 or more indicates healthy dividend growth. Anything below 10 is too low, meaning either the dividend is not growing fast enough, or the yield is too low.
The Discount rate
The discount rate is the sum of the yield and the compound annual EPS growth. A discount rate of 10 or more indicates healthy earnings growth to finance dividend. Anything below 9 is too low, meaning either the the earnings have not grown fast enough to finance the current dividends, or the yield is too low.
To create a rank out of these two I simply add them together to create the ChowderDiscount rank:
ChowderDiscount = 2 * Yield + DPS growth + EPS growth
A ChowderDiscount rank of 0.22 or more indicates a healthy yield from past dividend and earnings growth. A number below 0.19 means a low yield due to either low dividend or low earnings growth.
My watchlist sorted by ChowderDiscount rank looks like this:
National Oilwell Varco and Disney (NYSE:DIS) are near the top. This feels right, they are both great companies with an excellent growth history. But look, IBM (NYSE:IBM) is below GE with a rank of 0.26. That doesn't seem fair; IBM is a great opportunity right now, with a reasonable yield and a super-low DPR. In comparison GE has a higher yield but a DPR of 57.59%, which is pretty close to the 60% warning threshold.
In my previous blog post I ranked my current portfolio by ChowderDiscount rank and Billiton (NYSE:BLT) appeared all the way at the bottom. I glossed over this result because BLT is actually a fine investment. The stock has a high yield and a low DPR, a fantastic combination that promises a large dividend payout in the future.
Can I create a better rank, one that takes the spread between yield and DPR into account?
What I need to do is create a forward-looking rank that combines yield and DPR. Since yield typically operates on a 0%-10% scale (with 4% or more being great), and DPR on a 0%-100% scale (with 60% or less being great), I can combine them as follows:
YDPR = 10 * Yield + (1 - DPR)
I call this the Yield plus Inverted DPR rank, or YDPR for short. A YDPR value above 0.8 is great and indicates a high yield with lots of room for future dividend growth. A value below 0.45 indicates either low yield or a "maxed out" dividend.
My watchlist sorted by YDPR now looks like this:
Now IBM appears in 4th place, below Royal Dutch Shell (NYSE:RDS.A)(NYSE:RDS.B), Deere & Co. (NYSE:DE) and National Oilwell Varco, which have even more dividend growth potential. GE doesn't look like such a good deal anymore, and Pfizer (NYSE:PFE) is right at the bottom.
To evaluate both the past and forward outlooks, I need a new combined rank.
My combined rank has a very simple formula:
Rank = ChowderDiscount + YDPR
Any Rank value over 1.02 is good, and anything below 0.64 is too low. A low value means either the yield, DPS growth or EPS growth is too low, or the DPR is too high.
My watchlist sorted by combined rank now looks like this:
With this new ranking formula my top picks are National Oilwell Varco, Boiron or BMW.
I pulled the trigger yesterday and bought 11 shares of BMW for €91.69* per share.
(* This amount includes a transaction fee).
Disclosure: The author is long BAMXF.
The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it. The author has no business relationship with any company whose stock is mentioned in this article.
Editor's Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.