Dripping For Fun And Profit

|
Includes: AAPL, ADP, AFL, BAX, BDX, CAT, CL, CLX, COP, CVX, D, DE, EMR, GE, GIS, GPC, HCP, HSY, IBM, JNJ, KHC, KMB, KMI, KO, LMT, MCD, MKC, MMM, MO, MSFT, NEE, O, OHI, PEP, PG, PM, QCOM, SBUX, SJM, SO, T, TGT, UTX, V, VZ, WBA, WEC, WFC, WMT, XOM
by: Mike Nadel

Summary

There are many ways to deploy dividends paid by companies, and dripping certainly is a viable strategy for many investors.

Dividend reinvesting worked out quite well in 2016 for the DG50.

The vast majority of the portfolio's drips were bought at discounts relative to year-end prices.

For most of 2016, Automatic Data Processing (NASDAQ:ADP) and Microsoft (NASDAQ:MSFT) were considered too pricey for "intelligent" investors to buy. Nevertheless, within the Dividend Growth 50, each company was purchased on four separate occasions ... and arguably, the portfolio got a good deal every time.

Similarly, there are few who would have claimed reasonable valuations throughout 2016 for the likes of Altria (NYSE:MO), McDonald's (NYSE:MCD), Johnson & Johnson (NYSE:JNJ), Lockheed Martin (NYSE:LMT), 3M (NYSE:MMM), Procter & Gamble (NYSE:PG) or PepsiCo (NYSE:PEP). Again, the DG50 didn't care, buying fractional shares of the seven stocks a combined 28 times. 21 of those purchases - 75% - turned out to be at discounts to the companies' end-of-year prices.

How did all of these purchases take place? Through dividend reinvestment - also known as "dripping."

One of the frequent, friendly debates here in Seeking Alpha's DGI Fun Zone centers around what investors should do with dividends - besides celebrate them, that is.

Chowder, the site's "Dean of Dividend Growth Investing," had been a big-time dripper throughout the "accumulation phase" as he built his portfolio and income stream. Upon entering the "distribution phase" last year, he began spending dividends on living expenses and leisure activities.

David Van Knapp, SA's "Godfather of DGI," pools the dividends he receives until he has at least $1,000. He then uses the dough to purchase an attractively valued company. Dave is one Godfather who is willing to wait for an offer he can't refuse.

Buyandhold 2012, the comment-stream regular who hasn't bought a single share of stock in nearly five years due to perceived market overvaluation, takes divvies as cash - and puts the money aside as dry powder for the next major correction.

Me? I used to be The Big Dripper, and I do still reinvest most dividends right back into the companies that pay them. A few months ago, I turned off the drips on the 11 stocks in my wife's 401(k), bringing more cash into that account to invest as I see fit.

When it comes to the Dividend Growth 50 - the real-time, real- money project whose components were selected in 2014 by Chowder, Van Knapp and eight other Seeking Alpha contributors - there is no choice. DG50 rules mandate dripping.

During 2016, the portfolio made 212 separate purchases via dividend reinvestment. Of the 209 drips involving companies that were held all year, 132 - or 63% - were done at prices lower than the closing price on the year's final trading day, Dec. 30.

Using the Automatic Data Processing position as an example, .037 shares were bought at $86.92 in January, .037 shares at $88.89 in April, .038 shares at $87.01 in July and .038 shares at $87.57 in October. The average drip price -$87.60 - turned out to have been a 17.3% discount to ADP's year-end price of $102.78.

Plus, all of that dripping took the position size from 6.107 shares to 6.257. So the DG50 will receive still more income from ADP in 2017 and will buy still more fractional shares of that outstanding company. Thanks to dripping, income from the ADP position grew 10.75% in 2016 even though the company's dividend hike was 7.55%.

The table below shows each DG50 component's final price of 2016, the average price paid via dividend reinvestments, the "discount" (or premium) relative to the end-of-year price, and the number of quarters each component was bought below the Dec. 30 price.

COMPANY

PRICE

AVG DRIP

DISC

QBP

Deere (NYSE:DE)

$103.04

$81.16

27.0%

4

ConocoPhillips (NYSE:COP)

$50.14

$41.58

20.6%

4

Automatic Data Processing

$102.78

$87.60

17.3%

4

Caterpillar (NYSE:CAT)

$92.74

$79.05

17.3%

3

Chevron (NYSE:CVX)

$117.70

$102.27

15.1%

4

Apple (NASDAQ:AAPL)

$115.82

$101.69

13.9%

4

Microsoft

$62.14

$55.31

12.3%

4

Kinder Morgan (NYSE:KMI)

$20.71

$18.56

11.6%

3

AT&T (NYSE:T)

$42.53

$38.32

11.0%

3

Wells Fargo (NYSE:WFC)

$55.11

$49.97

10.3%

4

Qualcomm (NASDAQ:QCOM)

$65.20

$59.33

9.9%

3

IBM (NYSE:IBM)

$165.99

$154.02

7.8%

4

Hershey (NYSE:HSY)

$103.43

$96.51

7.2%

4

Altria

$67.62

$63.37

6.7%

3

United Technologies (NYSE:UTX)

$109.62

$103.34

6.1%

4

Kraft Heinz (NASDAQ:KHC)

$87.32

$82.69

5.6%

2.4*

Lockheed Martin

$249.94

$238.24

4.9%

3

Verizon (NYSE:VZ)

$53.38

$50.91

4.9%

3

Baxter (NYSE:BAX)

$44.34

$42.41

4.6%

3

General Electric (NYSE:GE)

$31.60

$30.25

4.5%

3

3M

$178.57

$171.20

4.3%

3

Emerson Electric (NYSE:EMR)

$55.75

$53.67

3.9%

3

Dominion Resources (NYSE:D)

$76.59

$73.84

3.7%

4

Exxon Mobil (NYSE:XOM)

$90.26

$87.41

3.3%

3

PepsiCo

$104.63

$102.19

2.4%

3

Johnson & Johnson

$115.21

$112.61

2.3%

3

McDonald's

$121.72

$119.76

1.6%

3

Wal-Mart (NYSE:WMT)

$69.12

$68.05

1.6%

2

Aflac (NYSE:AFL)

$69.60

$68.57

1.5%

2

Walgreens Boots (NASDAQ:WBA)

$82.76

$81.85

1.1%

3

Southern (NYSE:SO)

$49.19

$48.68

1.0%

2

Visa (NYSE:V)

$78.02

$77.23

1.0%

2

Procter & Gamble

$84.08

$83.46

0.7%

3

Becton, Dickinson (NYSE:BDX)

$165.55

$164.46

0.7%

2

NextEra Energy (NYSE:NEE)

$119.46

$119.62

(0.1%)

2

Genuine Parts (NYSE:GPC)

$95.54

$95.70

(0.2%)

1

WEC Energy (NYSE:WEC)

$58.65

$58.79

(0.2%)

2

General Mills (NYSE:GIS)

$61.77

$61.99

(0.4%)

3

McCormick (NYSE:MKC)

$93.33

$94.35

(1.1%)

1

Omega Healthcare (NYSE:OHI)

$31.26

$31.63

(1.2%)

2

Starbucks (NASDAQ:SBUX)

$55.52

$56.17

(1.2%)

2

Target (NYSE:TGT)

$72.23

$74.10

(2.5%)

2

J. M. Smucker (NYSE:SJM)

$128.06

$131.63

(2.7%)

1

Coca-Cola (NYSE:KO)

$41.46

$43.61

(4.9%)

0

Philip Morris (NYSE:PM)

$91.49

$96.65

(5.3%)

1

Clorox (NYSE:CLX)

$120.02

$127.10

(5.6%)

1

Realty Income (NYSE:O)

$57.48

$61.29

(6.2%)

1.3#

Colgate-Palmolive (NYSE:CL)

$65.44

$70.15

(6.7%)

0

HCP (NYSE:HCP)

$29.72

$32.19

(7.7%)

2

Kimberly-Clark (NYSE:KMB)

$114.12

$131.36

(13.1%)

0

NOTES: *KHC made five dividend payments in 2016, with three drips at prices lower than the year-end number; that is the equivalent of 2.4 out of four. #O made 12 dividend payments in 2016, with four drips beating the year-end price; that is the equivalent of 1.3 out of four.

OBSERVATIONS:

For 11 companies, all four drips bought shares at a discount to year-end prices. Only three stocks - Coca-Cola, Colgate-Palmolive and Kimberly-Clark - were bought at prices higher than their Dec. 30 close every time.

10 companies experienced double-digit "gains" when comparing their average drip prices to year-end prices (and an 11th, Qualcomm, was bought at a 9.9% discount). Only KMB had an average drip price more than 10% higher than its Dec. 30 close.

30 companies were bought at discounts either three or four times. Only eight were in the 0 or 1 groups.

Of the 31 companies whose average drip prices varied at least 3% from their year-end prices, 24 were in the discount category.

Companies in sectors that had been beaten down - Industrials such as Deere and Caterpillar, and Energy corporations ConocoPhillips, Chevron and Kinder Morgan - produced some of the best "drip values." Tech giants Apple, Microsoft, Qualcomm and IBM also experienced great drip success.

Most companies that ended up being expensive to buy via drip were in Consumer Staples: KMB, CL, CLX, PM, KO. The two big REITs in the DG50, HCP and O, also offered less-than-optimal "drip values."

Always-amazing Altria again showed that it's rarely a bad time to buy what very well might be the No. 1 stock of all-time.

What Does It All Mean?

This little study I conducted does not "prove" that reinvesting dividends is superior to pooling them for use in the near future, saving them to be deployed down the line or spending them. Nor does it suggest that investors should run out and buy any of these companies right now; as always, each person should do his or her own due diligence.

I do think it demonstrates how dripping can be a viable dollar-cost averaging strategy, resulting in the easy, cost-efficient acquisition of additional shares of quality companies. In an article I wrote nearly four years ago - Dripping Works: A Real World Example - I explain in detail the many reasons I have employed the strategy for years.

I totally understand and respect why Dave Van Knapp & Friends do the pool-now-buy-later thing. Nevertheless, I firmly believe that for many investors - especially beginners and others with small accounts - dripping is a logical, financially prudent way to build a portfolio.

The DG50 was funded with only about $25,000, and I like that more of every component is bought every quarter (or, in the case of Realty Income, every month) without having to pay a penny in commissions. I also like that the process happens automatically, without me or anybody else having to think about it.

As Gaston's little buddy LeFou sang in Beauty and the Beast, thinking can be "a dangerous pastime." LeFou didn't tack on "in investing," but he certainly could have!

Heck, after conducting this study, I might just turn the drips back on in my wife's 401(k). There are worse things an investor can be called than The Big Dripper.

Disclosure: I am/we are long ALL COMPANIES MENTIONED.

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.