RetirementRx: Turning 5 And Exceeding Income Expectations

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Includes: ABT, BAC, BLK, CELG, CLDT, CVS, DLR, EBIX, FDX, FSPSX, FXAIX, IBM, JNJ, KR, MDT, OHI, SCHD, SJM, SLB, SO, SPY, XOM
by: Mike Wald
Summary

The performance of RetirementRx is summarized relative to yearly goals and alternative ETF investments.

Second half transactions for 2018 are reviewed and current portfolio is presented.

Fresh goals for 2019 include a target dividend income of $8,700.

RetirementRx is performing well for income growth, less well for capital appreciation.

Introduction

Relying on dividend income to meet the financial needs of retirement is my vision for a healthy and stable retirement. To achieve the level of dividend income needed to cover most living expenses, a savings and investing plan is required. I call my plan RetirementRx. RetirementRx was started in 2013 with a target retirement income equal to my 2013 salary ($120K) adjusted for 2% inflation which can be achieved by a long-term dividend growth rate of 8% and a 4% increase in yearly cash contributions. I started reporting my plan’s progress in 2017 and this article represents the fifth installation and my 2018 year-end review. Those interested in my initial plan and 2017 year-end review can find them in my profile.

Review of RetirementRx 2018 Goals And Performance

RetirementRx has both long term and shorter-term goals. Short-term goals are generally set-yearly milestones that allow for small triumphs along the way. Both sets of goals must be measurable and challenging. For 2018, I had four goals:

  1. Surpass $7,000 in dividend income (this exceeds the $6,330 target of the 8% dividend growth model)
  2. Contribute approximately equal amounts to Roth 401(k) as pre-tax 401(k)
  3. Keep transaction costs to <3% of dividend cash flow produced by the portfolio (i.e. <$190)
  4. Target a net reduction in portfolio beta

I am happy to report that all four goals were achieved. In addition to the $7209 in dividend income, I have contributed the max to my Roth 401(k) while receiving the full company match to my Traditional 401(k). My % income contributions were 8% to Roth 401(k) and 3% to the Traditional 401(k) which allowed me to meet the 2018 cap of $18,500 in November. During the year, I made 15 transactions, resulting in transaction costs of 2.11% of the non-401(k) dividend income. Finally, the portfolio’s beta reduced from 1.07 to 1.03, courtesy of adding JNJ, SJM, KR, SO, XOM, and DLR.

Performance Of RetirementRx

The primary goal of RetirementRx is to meet the target cash flow each year. The dividend income produced by RetirementRx of $7209 exceeded the target of $6327. The non-401(k) and 401(k) components were $6,344 and $865, respectively. The 5-year history of income generated by the plan is shown in the below figure relative to the model of 8% DGR and 4% contribution growth.

The magnitude of this increase in dividend income versus 2017 is a consequence of a 401(k) rollover into the Traditional IRA at the end of 2017.

Despite the strong income growth of RetirementRx, its total return was -7%, which lags the returns of SPY (S&P 500 Index ETF) and SCHD of -4.4% and -5.6%. The table below summarizes the underperformance of RetirementRx in terms of total return and its outperformance on dividend growth. The numbers for SPY and SCHD are taken from Morningstar's prospectus courtesy of Etrade. A total return investor would be disappointed in these results.

I am not thrilled with the underperformance either. Yet, I am not overly worried as my primary goal is being achieved. Further, there are two reasons for this underperformance that are worth noting. First, a fair chunk of the added funds from 401(k) rollover in 2017 were invested during the market peak in Jan 2018 (see list of transactions in Jan 2018). This poor timing exacerbates the net performance of the portfolio as the US equity market moved mostly sideways and then downward until the end of 2018. Secondly, I often buy companies during periods of negative sentiment. Their performance on a year-by-year basis may not be spectacular over shortened time frames.

Investment

Total Return

Total Return w/ Dividend Reinvested

Dividend Growth

SPY

-6.3%

-4.4%

-10.7%

SCHD

-8.2%

-5.6%

7%

RetirementRx

-10.1%

-7.0%

9.7%

When looking at the total return over the last 5 years, SPY and SCHD perform similarly. RetirementRx’s total return is more variable with significant underperformance in 2015 and slight underperformance in 2014, 2017, and 2018. 2016 was the only year of outperformance by RetirementRx.

With the addition of $39,704 in new funds, the net value of RetirementRx increased from $231K to $254K in 2018. The following chart shows the growth in RetirementRx based on its cumulative contributions, dividends produced, and capital appreciation.

Transactions In 2nd Half 2018

RetirementRx is made up of an after-tax account, a Roth IRA, a traditional IRA, and a 401(k) which comprises both Roth and Trad components. In 2018, I opened an HSA with Fidelity and plan to start investing some of those funds in 2019.

In the 2nd half of 2018, I made three transactions (2 buys and 1 sale in my traditional IRA), dripped 2 positions in my Roth, and made one purchase in my after-tax account during the first week of 2019. Below is a summary of the 2018 transactions in the non-401(k) accounts including the early 2019 purchase.

Year

Month

Purchases

Sales

2018

Jan

13 FDX @$257, 200 BAC @$30, 50 MDT @$82, 100 KR @$28, 50 SO@$47, 20 XOM @$85

Feb

March

April

May

33 JNJ @121

21 ABT @ $62, 14 IBM @142

June

July

August

Sept

5.25 FDX @ $247 (R)

Oct

26 SJM @ $104, 5 BLK @ $423

25 SLB @ $60

Nov

Dec

4.13 DLR @ $112 (R)

2019

Jan

15 FDX @$161

Feb

While I intended to add more SJM and DLR in 2018, I could not resist the cheapness of FDX and BLK. I am currently adding to FDX via DRIP and will consider more BLK if it drops back down below the $390 level and I have cash on hand. Both FDX and BLK present strong dividend growth opportunities for the next 5 years even in if the economy suffers. There is a new commission-free dividend reinvestment option in Motif Investing. I am using this to add to FDX. So far in 2018, I used the DRIP to acquire 5.25 shares of FDX and 4.13 shares of DLR. I have switched back to FDX due the significant discount to historical valuation and will continue dripping FDX until the price recovers above the $250 mark or I achieve a full position.

Portfolio Composition

As of Dec 31st, 2018, RetirementRx consists of 44 stocks in the non-401(k) accounts. Forty-two are dividend payers; Celgene (CELG) and TEVA are the exceptions. There are 38 companies actively growing their distributions year-over-year with EBIX, CLDT, CVS, and OHI as the exceptions. The current portfolio has an average dividend yield of 3.1% and an organic dividend growth rate of 9.7%.

The following list ranks the stocks in RetirementRx by % allocation. Red highlighting identifies stocks that either have not raised their dividend payments in the past year or whose last dividend raise was less than 5%. Blue highlights upcoming dates for expected dividend increase announcements. The recent 5% increase by BLK is not yet included.

I also like to consider the dividend growth profile of holdings relative to their yields. My preference is for a mix of both slow-growing high yielders and high growth, low yielders. I love the middle tertile the most – those with ~3% yields and a >10% DGR. These companies tend to offer the most reliable dividend streams.

In addition to the stocks in the list, RetirementRx includes a ~$1,200 investment in SCHD as a performance comparator and growing investments in index funds within an employer-sponsored 401(k) - the Fidelity US index fund FXAIX and Fidelity International fund FSPSX – split 70% and 30%, respectively.

Below is the sector break-down of RetirementRx (non-401(k) components only) as of Dec 31st, 2018. No sector should contribute more than 20% of the dividend income or portfolio value. Thereby, consumer discretionary stocks are unattractive in the near term due to both the 20% rule and that consumer discretionary stocks will suffer the most in a recession.

Goals For 2019

As RetirementRx achieved all 2018 goals, I am excited to set new 2019 goals. Achieving all five of these is going to be challenging, but it won’t happen if I don’t try.

  1. Generate $8,700 in dividend income.

Per the 8% dividend growth model and my planned contributions, I expect to reach approximately $8,700 in dividend income in 2019, which represents an increase of $1500 or 21% from 2018.

  1. Achieve a portfolio beta of ≤1.

I would also like to continue to lower the portfolio’s beta and will target a beta of ≤1 by EOY 2019. While I consider a beta of 0.8 to be an ideal target, this is something I am aiming for over the next 10 years. As a buy and hold investor, volatility is only harmful in unsteady hands.

  1. Avoid dividend cuts and incur no more than 1 dividend freeze.

Ideally, all the stocks in RetirementRx would be increasing their dividend payouts YoY. With Celgene being acquired by Bristol-Myers Squibb (NYSE:BMY), I expect to have 5 companies in the no-dividend or no-increase bucket. I do not want to end 2019 with more than 5 in this bucket, so I will manage this closely. I am happy to wait for CVS to reinitiate increases, but the dividend income of the portfolio can certainly grow faster when all holdings are contributing.

  1. Reestablish my stock screening system and demonstrate it when selecting a purchase in 2019

With the unfortunate passing of David Fish, I took an unintentional hiatus from using the CCC list. Up until May, I had become reliant on Mark Foeller’s FERST sheet and once Mark recommenced it in October, I had already lost the habit of downloading it and screening for potential investments. It is time to reboot the screening system. Since I have not explained my screening system yet, I will do this in a future publication.

  1. Contribute at least $41,500 into my investing accounts

As one of my commitments to this retirement plan is to grow my contributions by 4% per year, I will start monitoring this more closely on a year-to-year basis. I have exceeded this 4% rate so far, but it has not been a consistent YoY increase. The goal for 2019 is a 4% increase from the amount contributed in 2018 of $39,704 which will be composed of $19K to my 401(k), a company match of $9K, and $13,300 into my after-tax account. Because this is a big year of 40th birthday parties for me, my wife, and many friends and it is also our 10th anniversary in the Fall, meeting this goal will not be easy.

Summary

Dividend growth investing is a sound strategy for retirement planning as it shifts the focus away from stock price towards long-term wealth generation. In today’s market, dividend growth investing will help investors stick to their long-term plan and goals. RetirementRx is producing good income growth and exceeded the 2018 income target. I hope others find my plan and performance useful in their quest for generating income for their eventual or current retirement. As always, I encourage comments and discussions and value constructive feedback.

Happy Investing!

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 (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.