In his 2012 letter to shareholders, the Oracle of Omaha acknowledged that it might seem strange that while the company pays out no dividend of its own, "we relish the dividends we receive from most of the stocks that Berkshire owns."
Of Berkshire's 47 publicly traded holdings as of Dec. 31, roughly 2/3 pay dividends. The top five holdings, which comprise over 60% of the total portfolio, sport current dividend yields ranging from American Express's (AXP) 1.6% to Coca-Cola's (KO) 3.5%. They all have a history of dividend growth, as well -- including 54 years of consecutive increases for Coca-Cola and 17 for IBM (IBM).
I wasn't surprised that in the responses to and comments on my previous Digest query about dividend and income investing mentors, Buffett received multiple mentions. In his companion piece to that Digest, David Van Knapp wrote:
But most of Buffett's stock investments are in dividend-paying (indeed, dividend growth) companies, and with his wholly owned companies he constantly extols the virtues of creating vast cash streams flowing to headquarters that he can then reinvest.
That is exactly the business model of many DG investors: Get cash from your investments, reinvest the money, and compound it for years and years. My headquarters is simply my brokerage account into which the dividends flow.
I like to read Buffett's letter to shareholders every year. He almost always includes a section on general investment principles, and if you put them together over the years, you get a coherent approach to selecting investments: Buy great businesses at reasonable prices and let them work for you. He has also been consistent about basic concepts like tuning out noise and focusing on the long-term picture.
On the heels of Buffett's annual shareholder letter for 2016, released on Saturday, I thought it was an opportune time to hone in on Buffett's impact on the D&I community. Below are a few responses from authors to the question:
How has Warren Buffett influenced your dividend and income philosophy?
Please share your own thoughts in the comments below.
After having numerous conversations with DGI investors here at SA over the years, it’s become clear to me that I pay a lot more attention to the fundamentals of my holdings than others. I know many DGI investors who buy and hold shares of DGI aristocrats because they feel confident in the sustainability of those dividends and their future growth. However, for me to make a purchase, I generally need to believe that the shares I’m buying are either fairly or undervalued.
I think this is partially due to my age and the fact that I’m decades and decades away (God willing) from beginning to live off of the income that my portfolio generates. Because of this long investing horizon, I don’t make purchases with just income in mind, but instead, a combination of income growth and capital gains.
Many DGI guys and gals aren’t interested in benchmarking their investments against the major market indexes and seeking alpha in that regard, but instead, focusing on their income stream and whether or not that meets their lifestyle’s needs. However, I am seeking alpha; since I’m not currently living off of my income, it makes more sense for me to focus on maximizing my purchasing power up until retirement than it does for me to focus on the income in the present.
So why DGI you ask? I wholeheartedly believe in the power of compounding over the long-term (this is a lesson learned from Buffett), and I think DGI investing will lead to this alpha that I seek. However, value investing plays a role in this thesis, which is the main effect that Buffett, and maybe to an even greater extent, his partner, Charlie Munger, have had on my DGI philosophy. Both of these men have taught me what’s important to focus on when evaluating a company: strong moats, cash flows, strong balance sheets, and relative valuation. Because of Buffett I focus on quality when making investments. As boring as this sometimes may be, I take solace that I’m following in the footsteps of probably the best compounder of money in the history of the world.
I can’t tell you how many times I’ve played this line over and over in my head when making an investment decision:
“It’s far better to buy a wonderful company at a fair price than a fair company at a wonderful price.”
This is a lesson that Munger taught Buffett and one that has served me well just about every time I’ve put it to use in my own investment career.
How does Buffett affect my investing strategy? Quite a bit. After all, the Oracle of Omaha has the greatest investing track record in human history, and almost all of that is based on classic, value-focused, contrarian buy and hold investing of high-quality companies (usually that pay steady and growing dividends).
More important, Buffett's philosophy and writings, especially in his priceless Berkshire annual letters, have taught me that the most important thing for investors to focus on is themselves. Specifically their temperament, meaning knowing one's time horizons, goals, and risk tolerance. If you don't take the time to search your soul to create a well-designed long-term investing strategy, and then stick to it, you are far more likely to lose your nerve, try to "fly by the seat of your pants" and market time/over trade.
Studies have shown that this is the absolutely worst thing you can do. In fact, if you had just missed out on the top 10 market days of each of the last 9 decades, your total returns would shrink from 10,055% (investing in the S&P 500) to just 31%! Essentially, if you aren't able/willing to be a long-term investor, you are risking missing out on ALL of the benefits of the stock market's incredible wealth compounding power.
Further helping me in my own evolution as dividend growth investor are stories from Buffett's past, such as outlined in the wonderful biography, "Snowball: Warren Buffett And The Business Of Life" - specifically, stories about his early years, such as in the 1960s when an epic bull market forced him to become a master of patience and discipline, because he was forced to sit on his growing cash pile for four years.
The same is true of the 1970s, when the greatest contrarian in history spent three years during a massive bear market buying up quality companies with PEs as low as 5 when everyone else thought him crazy.
Further evidence of Buffett's contrarian brilliance includes his massive buy into American Express during the 1963 Salad Oil Scandal, which cost the company $1.2 billion in today's money and offered Buffett one of his first and most profitable investing opportunities.
The same is true with Coca-Cola (KO), in which he bought the majority of his 7% stake in 1988, despite shares rising 20% that year and many analysts calling him crazy. The company was a solid cash flow machine, with strong returns on capital and an unbeatably wide moat, so he ignored the naysayers and made the $1 billion investment that is today worth over $10 billion.
Then in 1989 and 1990 he went massively into Wells Fargo (WFC), a bank known for its legendarily conservative (i.e. "we don't blow up our balance sheet with crazy bets") banking culture at the height of the savings and loan crisis, which caused a housing bust that was particularly severe in Wells Fargo's home state of California. Buffett easily predicted the bank would survive and prosper in the coming decades, and he ended up owning 10% of the company at fire sale prices, which has helped to make him the world's second richest man today (worth $75 billion).
However, most important of all, despite Buffett's incredible capital allocation ability, what most impresses me is how wise he is, especially when it comes to spending money. For example, he plans to donate 99% of his wealth, all of it in Berkshire shares, to the Bill & Melinda Gates Foundation, at a rate of 5% each year, from 2010 to 2030.
Buffett is the ultimate example of living comfortably but not letting great wealth change you. He still lives in the same house he bought in Omaha in 1958 for $250,000 (in today's money). He also avoids luxury foods because he prefers breakfasts from McDonald's (MCD) as well as his daily five Cherry Cokes (over expensive wines). To him, money is a tool that should have a purpose besides just growing exponentially larger or supporting obscene luxury spending.
This has inspired me to dedicate my own portfolio to funding my own favorite charity, GiveDirectly. In fact, I eventually hope to grow it large enough to turn it into a perpetual charitable trust (called STUFA CODS for "Star Trek Utopia For All Courtesy Of Dividend Stocks") that will use the exponentially growing dividend stream to fund universal basic income for all humans on earth (and universal healthcare and/or higher education if the world's governments decide to do that on their own).
That's not to say that I don't one day hope to live a much nicer life. I dream of a nice apartment, a Tesla (TSLA), seeing all comic book movies in theaters, and eating at Red Lobster, Olive Garden or Chili's once a week and leaving a $2,000 tip. But even if I achieve my dream of becoming crazy rich, I plan to avoid the insane excesses that many rich people succumb too, like owning numerous palatial estates, a private jumbo jet, or a giga-yacht.
After all, like Buffett, what attracts me most to investing is the challenge of beating the overpaid "experts" on Wall Street and, more importantly, helping others to do the same.
Books have literally been written using Buffett quotes as the main topic, so it’s hard to detail my full appreciation in just this short answer. However, one idea that I am particularly fond of is: “Inactivity strikes us as intelligent behavior.”
In any competitive endeavor, the “winner” is usually the person who puts in the most effort. The one who works out harder, stays late, volunteers for the extra project, learns more – just plain out-works the competitors. And in the investing world that is partially true as well. Yet there’s also this inverse relationship that is present, and it often materializes in the way of too much activity – say feverish trading or short-term thinking – that leads to above average frictional expenses and below average results in the aggregate.
Buffett has this notion about investing for the long term that I have always gravitated towards. In particular, his idea of investing in something that you’d be content to partner with if the market closed for 5 or 10 years makes a lot of sense to me.
When you think about an income strategy, this is going to be the key takeaway. You can’t allow short-term fluctuations – i.e. day-to-day liquidity bids – influence your long-term strategy. When you fixate on an ever-growing cash flow stream, the rest eventually takes care of itself. Not tomorrow, not next week, not necessarily three years from now. Yet eventually a consistent, sustainable and rising income stream will pull share prices along with it.
This is important for a couple of reasons. For one thing, it allows you to think logically about the process. When everyone else is panicking, you can fixate on the income stream that your immensely profitable partnerships keep generating on your behalf.
Even better, you can take advantage of opportunities along the way. As Buffett would have it, “Look at market fluctuations as your friend rather than you enemy; profit from folly rather than participate in it.” Interestingly, the general public makes no such mistakes in their everyday lives. When we go to the grocery store, we don’t hope our favorite items have doubled in price. Or when we’re pumping gas, we don’t “root” for the price to increase before we’re done fueling up.
Yet for some reason, so many people “root” for higher and higher share prices, even as they continue to be regular net buyers through “fresh” capital, reinvested dividends or on their behalf via share repurchases. The long-term owner of a business benefits by being able to purchase shares at a lower price/valuation and finds a disadvantage in the way of higher prices. Simple, of course, but still greatly misunderstood.
When I think of Buffett, I naturally think of common stocks and controlled businesses. Yet a secondary notion comes in the way of farms and real estate. These assets are productive for obvious reasons: you collect a yield of crops or regular rent checks. The cash flow component is ongoing, and it’s there regardless if someone happens to be offering you price at which to sell.
You could go decades without once getting a quote on a farm or rental property and do quite well. The value is in the cash flow, not in jumping in and out. I view stocks, especially those with an income tilt, in a similar light. The difference is that you get liquidity quotes by the second, but the true value is going to reflect the underlying earnings power over the long-term.
I’ll finish with another Buffett gem: “Games are won by players who focus on the playing field – not by those whose eyes are glued to the scoreboard.” Buffett’s influence is to treat stocks as businesses, giving the same consideration as you would to buying a private farm or rental unit. His legacy, at least for me, will be how I logically think about stock prices and “cheer” or “jeer” in direct opposition to the general investing audience.
Again, please share your own thoughts in the comments below. What, if any, influence has Buffett had on your investment philosophy?
Also, please let me know if there's a topic you'd like to see covered in a future D&I Digest, either by commenting below or sending me a private message. I'd love to hear from you!
Finally, here's some recent Dividends & Income content you might want to check out (if you haven't already):
Marketplace Roundtable: Prices Are Going Up, But Dividends Keep Coming by SA Marketplace
A Dividend Portfolio Built From The World's Best Dividend ETFs by ETF Monkey
5 Fairly Valued MLPs: Is The Dilution Worth The Yield And How Do You Value Them? by Chuck Carnevale
Identifying Business Development Corporations Worth Keeping Vs. Those To Avoid Right Now by The Fortune Teller
Nothing Bad Ever Happens In The Stock Market: Multiple Ways To A Million by George Schneider
No, Malls Are Not Dying by Hoya Capital Real Estate
Have Confidence That You Can Retire Without Changing Your Lifestyle: Here's How by David Easter
A Textbook Example Of 'Why Moats Matter' by Brad Thomas
Dividend Growth For Couch Potatoes by David Van Knapp
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.