A Different Approach To Investing In Dividend Growth Stocks

Summary

• Dividend Growth Stocks increase dividends annually and have done so for a minimum of 5 years in a row.
• We all know about Coca-Cola, Procter and Gamble, Johnson and Johnson, McDonalds, Walmart, Target, Colgate Palmolive, Abbott Labs, and many of the other DG stocks.
• In using our valuation tool, "The Dividend Yield Metric" we identify when DG stocks are priced at a value.
• But that same metric also tells us when it's time to trim or sell some of our holdings in these companies.

Introduction:

I don't know about anyone else, but I have been selling shares of stock since November.

Normally, I rebalance my portfolio once a year and I tend to do that toward the end of December, but this year is different.

The market, as measured by the S&P 500 Index has been on a tear, since the selloff at the end of March.  While many investors threw in the towel and panicked, the right course of action was to have a well thought out "watch list" with limit orders in place for yields that were extraordinary, relative to 5 year historic yield points.

And that's what I was doing.

What You Should Know:

At the end of every month, I run my Schwab screen that targets companies in the S&P 500 Index, that pay a dividend and increase that dividend annually, and have a current yield that is in excess of the 5 year historic dividend yield.

This gives me a group of stocks that look attractive, on the surface.  But, it pays to dig a bit deeper into the fundamentals and what's going on at the company, before making a purchase.

When you stick to a basket of companies that you are familiar with, it makes things so much easier.  I mean, I know when Coca-Cola (KO) is on sale.  I known when Procter and Gamble (PG), Colgate Palmolive (CL), Kimberly Clark (KMB), Abbott Labs (ABT), Target (TGT), McDonald (MCD), Walmart (WMT), International Business Machines (IBM), Cisco Systems (CSCO), and other Blue Chip stocks that I own, "go on sale."

Now, the stock that everyone hates in this list?  That would be International Business Machines (IBM).

What About This Ugly Duckling?

I noticed after my first purchase of (IBM) that The Dividend Yield Metric is an outstanding tool for this company and defining "value" pricing.

For the longest time, (IBM) was range bound, relative to yield.  From 2011-2015, the yield point did nothing much in terms of changing.

But in 2016, the yield point began to get more active and grew to some interesting highs.  What changed was the yield point became more volatile as the price of the stock began to become more volatile.  

Keep in mind that price action determines yield points.  The relationship between the dollar yield amount and the price of the stock at any given point give you the current yield point.

It's not rocket science.

What You Should Know:

The first purchase that we made with (IBM) took place in 2016.  In our model portfolio, we did not purchase (IBM) at a "low" but we did purchase it at a "fair" price.  

In our Roth account, we have been a bit more aggressive with price and yield points and with (IBM) we have been actively trading this stock with an eye toward the "yield points."

Here's what I mean.

A Typical Investment:

A typical investor would use The Dividend Yield Metric to buy and hold their investment with a this company, as they would with many other DGI companies.  Assuming that you bought shares at points where the dividend yield was favorable, you would have a transaction table that looks like this.

An investor would have made purchases on 4 different dates, since 2/8/2016, and if that investor was someone like me, he would have purchased shares in 100 share lots.

At the end of the market today, this investor would own 400 shares of (IBM) at a cost (cost basis) of $109 a share.

The closing price, today, was a tad over $127 a share, so his 400 shares would have a value of $50,800 and his investment of $43,600 to acquire those shares would give him a capital gain of 16.51%.

That would also give him a dollar profit of $7200, a nice dividend income stream and everyone is a "happy camper."

But I didn't do that.  Instead I bought low and sold high.  How did that strategy work out?

Glad You Asked, He Said Rhetorically:

Suppose you began on 2/8/2016 with those same initial 100 shares of (IBM) stock and then used The Dividend Yield Metric as not only a purchase metric, but a sale metric?

Let's look at our table:

You would have bought 100 shares of (IBM) on 2/8/2016 for $120 a share, or $12,000 total.  In February of 2017 you would have sold those shares for $180 a share and that would have given you $18000 with $6000 in profits.

The next purchase would be in December of 2018.  You take most of the $18000 that you have and invest in 150 shares at $115 a share.  In July of 2019 you sell those shares for $150 a share and that give you $22,500 and $5250 in profit from this transaction.

The next purchase is in March of 2020.  You take most of your $22,500 and buy 235 shares of (IBM) for $95 a share.  You invest $22,325.  Your sale comes in June of 2020 when the price of (IBM) reaches $130 a share.  That gives you $30,550 and $8225 profit on this transaction.

The last purchase is in October of 2020 when you buy 285 shares of (IBM) for $106 a share, investing $30,210.  You sell those on Friday, 12/4/2020 for $127 a share and get $36195 back, in the transaction and have $5985 in profit.

Now, all together you put $12,000 into (IBM) with the initial purchase and then reinvested your proceeds from your sales back into new shares of (IBM).  You have profits of $25,460 with 4 transactions.  

So, which would you rather have?  A gain of $7200 with buy and hold or a gain of $25,460 with a buy low, sell high approach?

Food For Thought:

There is a reason that I used the numbers from 12/4/2020 in this blog post.  That reason was because the last trade with (IBM) took place on that date. 

I am currently not long (IBM) as I believe I can make a lot more money being in and out of (IBM) as opposed to being a buy and hold investor of (IBM).

This approach can work very well with DG stocks.  From the valuation tool, The Dividend Yield Metric, we learn that there are signals that tell us when a stock is priced at a value and there are signals from that same metric that tell us when a stock is overpriced and should be sold.

It took me a while to grasp this concept, but in my last blog, I explained this strategy in greater detail.

Check it out here:

How To Accelerate Your Dividend Income In One Easy Step. - David Crosetti | Seeking Alpha