Seeking Alpha

The Beauty Of Dividend Growth Investing

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Includes: ABBV, BMY, CSX, DPZ, FDX, GTX, HON, IVZ, LOW, MO, O, REZI, SBRA, T, VER, VTR
by: Nicholas Ward
Summary

I look over some of my worst investments, trying to learn from mistakes.

My ultimately conclusion is that time is an investor's best friend.

Buy and hold investing is generally fairly boring, but it's safe and effective, especially when combined with the compounding process associated with DGI holdings.

I recently wrote a piece providing an overview of my portfolio. When tallying up the numbers for the piece and breaking down my overall holdings, I realized something. I don’t often take a step back and look at my holdings as a whole because I’m typically so concerned with my watch list. Generally speaking, I knew that I’ve done well in the markets, so I expected the vast majority of my holdings to show solid gains. That ended up being true. 47 of my 60 holdings were positive. This means that ~78.3% of my current holdings were positive. Their average percentage gain was 39.15%. And, this doesn’t include the profits that I’ve taken in the past. So, all in all, this was pretty good. But, this piece isn’t about the wins, but instead the losses. When I took a deeper look at my negative holdings, I realized a couple of things that highlighted the beauty of the dividend growth strategy.

Learning From Mistakes

Ultimately, I imagine that all readers here at Seeking Alpha are looking for two things: either education (which includes inspiration) and/or entertainment. Hopefully, this piece provides both.

Simply put, if we’re not learning from our mistakes, what are we doing? That’s what life is all about. I’ve said it before and I’m sure I’ll say it again, but we’re all human beings, which means we’re all flawed individuals. The market itself is fueled by these flaws, namely by the way of fear and/or greed.

But, just because we’re imperfect doesn’t mean we shouldn’t strive to be better. A defeatist attitude will result in only one thing: defeat. So, after putting together my portfolio overview spreadsheet, instead of bolstering my ego by looking at some of my biggest winners, I decided to focus in on my losers to see whether or not I made mistakes that could be avoided in the future, hoping to find ways to augment my returns moving forward.

Here are the 13 stocks that I currently had negative unrealized capital losses on 8/19/19 (since then, I know that Lowe's (LOW) has rallied and is now positive, but I suppose there is a chance that something else has fallen, so I’ll stick with my weekend results).

Company name Ticker Cost basis Gain/loss% Portfolio Weighting
AT&T T $37.75 -7.40% 4.32%
Bristol Myers Squibb BMY $48.38 -2.90% 2.43%
Altria MO $51.46 -9.70% 2.22%
FedEx FDX $196.93 -20.80% 1.45%
AbbVie ABBV $67.05 -3.90% 0.73%
Domino's Pizza DPZ $250.35 -6.20% 0.53%
Lowes LOW $95.77 -1.90% 0.45%
CSX CSX $71.27 -8.70% 0.41%
Invesco IVZ $23.72 -34.00% 0.36%
VEREIT VER $12.04 -20.10% 0.29%
Sabra Health Care SBRA $27.18 -20.70% 0.06%
Resideo Technologies REZI $18.51 -20.70% 0.02%
Garret Motion GTX $11.51 -0.50% 0.01%

Looking For A Pattern

At first glance, the list doesn’t appear to have many things in common. I’m looking at stocks from a variety of different industries and sectors. I’m looking at low yielders, high yielders, and no yielders. I’m looking at growth stocks and stodgy, income-oriented names. There are domestic-focused names and highly diversified, multi-national operations. There are large cap, medium cap, and small caps. In short, my losers are all over the place.

I actually think this is a good thing. The market is inherently unpredictable and there is bound to be variance in any stock evaluation/selection system. Sure, I’d love to be batting 1.000, but at the end of the day, .783 is a pretty good average. And, as I said above, I know that my average is higher than that because I’ve taken a lot of profits in the past (and I rarely lock in losses), meaning that overall, my success rate has been in the 90%+ range.

Certainly, the broader market’s bullish momentum over the last decade or so has helped with this. Some say that a monkey throwing darts at a wall could make money during bull markets and while I don’t think that’s the best way to go about investing, I’m also not going to disagree with the premise. Regardless, the fact is, I’m not right 100% of the time, yet I don’t want to blindly accept the fact that I’m bound to make mistakes. While it's true that I always will, I was sure that there was a helpful trend to spot. There had to be an answer to find; a way to improve.

So, with this in mind I took a deeper look at my losers.

First things first, I decided to remove 3 of them from the list. This might sound like a cop-out, but 3 of my 13 holdings that were in the red, Sabra Health Care REIT, Resideo Technologies, and Garrett Motion Inc., were names that I never bought in the first place, so I decided that they shouldn’t be factored into my data set when attempting to improve my stock selection system.

These 3 stocks were spin-offs from Ventas (VTR) and Honeywell (HON). Generally speaking, when I receive shares from a spin-off situation, the positions are very small. SBRA, REZI, and GTX make up a combined 0.09% of my portfolio overall (basically, they’re inconsequential). When these tiny positions are spun off to me, I just hold onto them, hoping that the more streamlined companies can amount to something one day. If they do, that’s great. But, if they don’t and it turns out that management of the high quality companies that I did purchase were simply trimming fat, then it’s not the end of the world (both VTR and HON are up nicely since making these spin-off moves).

Time Is An Investor’s Best Friend

So, that leaves me with 10 names to decipher. Looking over these names, only one pattern appeared. The majority of my losers were relatively recent purchases. Could it be that simple? Well, as a matter of fact, it appears so.

9 out of the 10 were purchases (or added to) in the last 2 years. Bristol-Myers, AbbVie, Domino's Pizza, CSX, and Lowe's were all purchases on recent dips in 2019. I've owned AT&T and Altria for years, yet I've added to both stocks heavily in the recent past due to dips associated with M&A moves. VEREIT is the only stock on this list that I haven't added to in years. I’ve owned that stock since the old ARCP days. I thought it was an upstart REIT with the potential to develop into another Realty Income (O).

Accounting issues turned that thesis sour, yet I’ve held for years and years because the stock continues to pay a high dividend yield and as I said above, I rarely lock in losses. Why would I do so when a stock continues to pay me to hold? Counting VER’s dividend into my total return, I’m actually positive on the stock since I began building my position back in 2014. VER has underperformed the broader markets by a long shot, so I definitely don’t consider it to be a winner, but at the end of the day, I suppose I’m sitting in a pretty nice spot when I can say that one of my worst ever investing decisions has still resulted in a positive total return.

When buying dips, it’s impossible to know where the bottom lies ahead of time. Investors always run the risk of catching a falling knife when buying into weakness. But, risk of getting hurt aside, I do it all of the time because a focus on a stock’s fundamentals can point towards discounted valuations and over time, mean reversion typically occurs. Sometimes it takes days, other times, weeks, months, or even years for stocks to bounce back to levels where I think they deserve to be trading at.

But, the beautiful thing about the DGI strategy is that investors can easily take these risks and focus on beaten down values in the short term without having to worry about falling knives because we know that one way or the other, we’re going to be paid generously while we wait for the turnaround that we expect to see to take place. This same idea can be applied to ugly stories like my ARCP one above. The success of my long-term holds is really a testament to dividend growth, a buy and hold strategy, and the compounding process that takes place when these two ideas come together.

A Recent Example

Let’s apply this logic to CSX. When looking at my recent purchases that are in the red, CSX has fallen the furthest since I bought shares on 7/17, so it seems like a prime candidate to focus on.

I wrote this piece highlighting that purchase when I made it. I bought CSX shares at $71.27 and now, a month later, they’re down some ~6%. Do I wish that I had waited? Sure. But, that’s with the benefit of hindsight. As I said in the purchase piece, I thought CSX was trading at fair value when I bought shares and I continue to stand by that ~$70 fair value estimate. With this in mind, does it bother me that CSX has fallen further? No, it doesn’t.

If I liked CSX at ~17x earnings, then I obviously like the stock even more here in the ~16x range. I think the market has overreacted to the downside and as I said before, I’d be happy to add to my CSX position into further weakness. I think at this point in time most would agree that the market overreacted to the Fed news late last year, ultimately leading to the Christmas Eve sell-off. The market shot back up in a quick V-shaped pattern after that dip and shares of many companies haven’t come close to those lows since. Well, as you can see on the F.A.S.T. Graph below, CSX’s current valuation has fallen below that Christmas Eve multiple. To me, this doesn’t make sense and this is precisely why CSX is sitting near the top of my current watch list.

Source: F.A.S.T. Graphs

I generally like to average down into positions in negative 10% intervals. With that in mind, I’m looking to buy CSX shares in the ~$64 range next and then again in the ~$58 range, should they fall that far. CSX has nearly fallen to that -10% threshold and I may well make a purchase in the coming days. I always build positions slowly and this is exactly why. My initial purchase was a 1/3 position, meaning that for me to fill out my CSX position in the short term, the shares would have had to fall another ~20%. I do this as a hedge against my own infallibility. Rather than dive headfirst into trades, I like to spread out my risk along the time horizon. Leaving myself this option means that I’m not even upset when I see CSX shares trading down in the short term because I would like to add more exposure to this high quality DGI name.

An added benefit of being happy to buy DGI stocks into weakness is that the lower their share prices go, the higher their yields rise. When I bought CSX a month ago, shares were yielding less than 1.4%. Today, the yield on CSX shares has risen to nearly 1.5%. When averaging down into positions, I not only decrease my cost basis, but I’m able to increase my yield on cost.

Conclusion

The idea of buy and hold investing is a fairly boring one. It’s not sexy and the compounding process associated with dividend growth takes time. But, at the end of the day, it doesn’t need to be more complicated than this.

This is why buy and hold investing styles are so successful. High quality companies generally find a way to stay relevant. As demand for their products and/or services increases, their revenues and earnings tend to rise. Over time, share prices tend to rise alongside the underlying fundamentals that support them. And what’s more, since popular DGI names are oftentimes cash-cow-type companies, they can supercharge this process by using excess cash flows to buy back and retire outstanding shares.

So, if I learned anything when writing this article, it’s that time is the investor's best friend. My success rate when it comes to picking stocks proves that my evaluation system works well, but as I said before, I’m certainly not immune to mistakes. Yet, instead of panicking when one of my holdings goes into the red and selling shares at the bottom, this exercise solidified my stance that over longer terms, blue chip names find a way to succeed and with enough patience, just about any mistake (made within the realm of conservative dividend growth investing) can be erased. Capital preservation plays a large role in my decision-making process and this is a comforting realization.

This article was previously published for members of The Dividend Growth Club.

Disclosure: I am/we are long O, T, BMY, MO, FDX, ABBV, DPZ, LOW, CSX, IVZ, VER, SBRA, REZI, HON. 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.