What makes rising income that comes from a growing dividend so attractive in a yield stock? You not only receive greater income as the years go by, you also get a rising stock price—because the instrument Producing the income (the stock) is worth more as the income it produces increases. In effect, you get a “double dip” when you invest in high-yield stocks that have rising dividends. You get the income that increases to meet or surpass inflation, and you get the effect of that rising income on the stock price, which is to force the stock price higher. – Lowell Miller (The Single Best Investment)
Listen up guys! This quote has been a revelation to me. Truly! Dividend growth is the key. It’s the key to early retirement. It’s the key to my freedom. It’s the key at the basis of the whole dividend growth investing strategy.
Once I read, understood and experimented Lowell Miller’s concept presented here, my life changed for the better. I had finally found a sound investment strategy that would be at my arm’s lenght (no need for huge amount of capital to start), easy to follow and implement and that would harness the incredible power of compounding interests.
Since november 2013, with hard work and many changes in my (bad) habits, I’ve been able to save and invest 40,000$ and generate a stream of 1500$ per year in growing passive income! Not bad! Plus, I’ll add 8000$ in capital to invest on top of this pretty soon and I hope to be able to get an extra 350$ in passive income out of this capital.
That will make almost 2000$ of growing passive income accumulated in a year and a half! And this is just the begining of a great adventure.
Thanks to Lowell Miller, to Jason Fieber from Dividend Mantra and to all of you guys out there seeking early retirement through dividend growth investing, my life has changed for the better.
Dividend growth is the key because with rising income, the asset is obviously worth more on the market. So you get the income, inflation protection on your income because companies are usually able to pass inflation to their customers and raise the dividend faster than inflation so you can also get the compounding interest effect on the income itself and you also get some protection on your capital over the long-term because the rising income makes your asset worth more.
Dividend growth is really the fuel of the dividend growth compounding machine that we’re all trying to build for ourselve here. If you didn’t understand this concept as of yet, I suggest you read Lowell Miller’s book who can explain it better than me.
DivHut
I always like to say that we should achieve the “trifecta” of dividend investing. 1) Fresh capital, 2) dividend growth and 3) compounding. Of course, just relying on just one of these three aspects of dividend growth you’ll still manage an ever increasing rising income stream. Doing all three will get you there that much faster. Thanks for sharing.
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Allan
Hi Keith,
For the next 11 years… oh my god, I’ll already turn 34 pretty soon and want to retire at 45, Il’ll do all I can to take advantage of all 3. But then… I’ll have to rely only on dividend growth which should make my capital and income continue to compound. For sure the income won’t grow as fast but that’s going to be the begining of an exciting new journey where I’ll also be able to earn active income but from activites that will please me more than my 9@5 job. But… who knows… I might not wait until I get that old. I’ve learned how to grow my online ads income and how to rank in the serp. If only I can find some time to work on my projects (all my free time of the past 2 months has been spent on home improvements), I will make that online income grow faster and see where this leads me.
Thanks for passing by it’s always a pleasure to hear from you
FI Monkey
Allan,
I was reading the latest post from Jim Collins where he talks about VBIAX (Vanguard Balanced Index Fund Admiral Shares) and its dividend payout rate of 1.87%.
Please correct my math here because I have a very basic understanding of DGI, but based on what he said, it’s fairly simple. The number being thrown around was $73,000 invested, which would yield 1.87% in dividends or $1365/year. That’s not bad overall, and I’m aware that it’s on top of whatever the fund earns, but is it really the key to growth?
Say I have $500,000 invested. Now I’m getting $9350/year payout. Double that to $1 million and I’m getting $18,700/year. Wow! Well, wait. What?
I don’t get why people are drawn to this and I’m waiting for that light bulb moment (with an open mind, of course!). Can you please elaborate on why this is so amazing? I would really like to know.
Your friend,
FM
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Allan
Hi FImonkey,
I haven’t read that post but what I understand is that he’s talking about dividend growth funds… they are just a poor copy of the dividend growth investing strategy. My strategy is to get 3,5% on funds invested and 8% dividend growth. You can only achieve that by picking single stocks of great companies with a wide moat.
The dividend growth means that the income will compound at 8% per year. And since the income will compound, the value of the asset will also rise because the market wouldn’t tolerate a very high yield for a great company such as Exxon for example. Obviously if the stock of Exxon pays a 10$ dividend per year which would also be expected to be raised by 8% per year every year, the price of the stock wouldn’t stay at 85$ like it is right now. The market would balance its price higher because people would be interested in getting the dividend. So probably that the stock price would move up until the dividend would represent roughly 3-3,5% of the price.
That’s what dividend growth does. Each time they raise the dividend, the value of the share goes up (there might be a delay but eventually it will).
So your dividend income compounds and your asset value compounds too.
In the end what you’ll get is a total return combined with the dividend and increase in value which should average the market return. (8-11% per year)… that’s at least what I expect to get.
There is nothing more nothing less. You won’t get amazing or incredible return with that strategy. There are no such strategy anyways. But you should get consisten results which is already amazing in itself.
What I love about the dividend growth strategy is that you get a huge chunk of your total return in cash every quarter. A bird in the hand is better than two birds in the bush. You can spend that income. You can reinvest it. You can use it as a motivation to see your progress (income growth). And if a company is able to pay billions in dividends every quarter and raise the dividend every year it means that it’s a strong company making real money not just on a paper. It’s a proof that she makes real cash! And I prefer to invest in a company making real money than in a company who plays with the numbers but who in reality doesn’t make a single penny in profit.
The strategy is sound as it forces you to not try to time the market which is a losers game over the long term because if you flip a coin long enough in the end you always have a chance out of two to be right. And it’s been proven that humans are prone to sell low and buy high…
With the dividend growth strategy you have to buy when the dividend is higher or in line with its averages which means that you should buy when it trades at fair value or when it’s undervalued. You’re also forced to invest in strong companies because poor companies are not able (usually except a few exceptions) to pay and raise a dividend every year for decades.
Plus it’s a sound strategy because you are not forced to sell assets to have money to spend to pay your bills… you have the dividend.
And… the dividend and dividend growth act as a security net to retain the value of your stocks and since the dividend is usually raised every year faster than inflation you defeat your worst ennemy (inflation) and also grow your inflation ajusted income and inflation ajusted net worth.
The dividend growth investing strategy is an integrated approach that forces you to apply sound principles.
That’s only what it is. It’s a machine, a mechanism to make you rich and avoid most pitfalls and mistakes. It won’t give you extraordinary returns… but what is extraordinary is that it should give you consistant returns and with the time and compound interest concept on your side, this can make you rich.
Warren Buffett has been exceptional because he’s been able to compound his money at 21% per year while the market has compounded at 11-12% and while most mutual funds have a hard time compounding your money at 4-5%.
It’s almost impossible to get such a great track record and what he did to do that is almost impossible to mimmic too. He’s a special guy who has also lived special times.
If I am able to get 8% to 12% I’ll be more than happy.
Many argues that you would be better off with a pure index fund who mimmics the S&P500. Without any actions on your part you’d get a little under the market return and you might also be able to get a better return than with a dividend growth approach. And, at retirement age you could end up with a least the same capital than me or maybe even more. You could then buy dividend growth stocks with a yield of 3,5% and get the same income I’ll have at the same time with less work.
This is right. But… A bird in the hand is better than 2 birds in the bush. Many funds companies liquidate their funds at any given time (often at the worst time) and then forces you to lose money and invest elsewhere because the fund hasn’t been popular enough.
Plus you wouldn’t learn how to properly invest your money. There a huge learning curve. Plus buying 1,000,000$ or more in stocks the same year at retirement is not a good idea… you would have to time the market and since you wouldn’t have enough experience you’d most probably end up making many rookie mistakes.
Or you could take your millions and buy an annuity to avoid all the troubles of investing by yourself. But you’ll never get an annuity with the same yield and yield growth. Inflation indexed annuities are expensive and since they guarantee you a check every month they won’t give you a high yield. And once again, you’d be stuck with timing the market to buy your annuity as rates changes with market conditions.
Another popular way to spend you capital at retirement is the 4% withdrawal rate rule of thumb. In any market condition, withdraw 4% of you capital by selling your assets and spend it. This is a poor strategy because if your capital drops by 50% on a market crash while in retirement you’ll have to cut your income by half that year or take the risk to not have enough capital in the future while tons of dividend growth companies have historically maintained or raise their dividend in any given market conditions.
The dividend growth investing strategy resolves all these problems. It’s fun because you see your income grow and get real paychecks. You can start with a very little amount of capital and you learn a lot along the way.
Hope this help. You should really read the single best investment by Lowell Miller
Cheers
FI Monkey
Allan,
This is the kind of information I’ve been missing even after reading all these blogs on the very topic of DGI. So first of all, thank you for putting in the time — I know I won’t be the only one your comment helps!
Too true. Humans do like to sell low and buy high. And I’m not surprised that people try to time the market. What surprises me is that people continue trying to time the market after seeing so many failures and few success, but that’s what confirmation bias does to us. We only tend to see what outcomes reflect our inner beliefs.
But the trick is understanding when a stock is in line or undervalued, right? That’s the part that takes skill. Or is it?
I really like that aspect of it. Investing overall feels like a game of Operation where you have to do everything *just so* or someone else is going to take big bites out of your money.
That’s the kind of machine I’d like in my life. In fact, I want at least ten of them.
I’m not expecting Buffett numbers by any stretch. If I can hit 8%, I would personally be over the top, but that’s just me. Anything over 8% is just icing on the cake.
Yes, I think I’ll do that.
Thanks again for the time you spent writing this out. Immensely helpful.
FM
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Allan
Hi FiMonkey, I’m glad it helped you understand dgi a bit more.
And yeah, deciding if a stock is fairly valued or undervalued is more an art than a science. That’s why you have to pick only stocks of companies you understand and that’s why I money average my positions by buying a couple of shares every month or so. You have to stay in your circle of competence. It’s very important to very well understand how a company makes money and understand risks and future prospects of the company. Is it a company that you could still see in business 5-10 years from now. Will it keep it’s “wide economic moat”. Is it still possible to get market shares and at what cost. Think of Wal Mart. It’s currently entering in a fight with dollars stores, groceries stores (in Canada), online giants such as Amazon…It’s a company at war and it has huge means… but war is expensive. The dividend has only been raised by 2% this year…and I expect the next following years to be though for them. But if they win all of their “wars”…
Warren Buffett once said “our policy is one of concentration”. He’s in fact pretty diversified but most of his stock market money is tied into only a couple of stocks. Why? Because it’s hard to find a great company with a huge moat, very good future prospects and selling at a great price. Market crashes are often a good time to accumulate stocks in those companies who “should always be in business” and get extraordinary results but once again, who knows how to time a market crash and when is it time to say that we have reached the bottom?
DGI is an art but it’s also a very well oiled machine that’s taking out most of the emotions out of its processes making it a good solution to avoid most pitfalls of investing. And by cost averaging my way into the market by buying every month what appears to me (and based on 5 years averages) a fair price, I think a good chunk of the risk is already taken care of. Plus my horizon of investing is “forever” or as long as the companies in which I invest have good fundamentals and continue to pay and raise their dividends so time is on my side too.
I also suggest that everyone should read the letters to shareholders written by Warren Buffett on his Berkshire Hathaway website. They are a great source of learning plus they are free and the guy is fun to read too.
Cheers