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Expert Shares His Secrets to Dividend Growth Investing

Dividend growth investing puts cash in your pocket and the potential for upside returns for your dividend portfolio

I’ve loved dividend investing since buying my first shares of stock in a joint account with my parents when I was twelve years old. Seeing that quarterly cash flow deposited is one of the best motivations to investing.

But I’ve always felt that struggle that all dividend investors feel, the choice between solid cash flow and returns from price appreciation.

Since many dividend-paying stocks are from mature industries, growth sometimes takes a backseat to dividends and that constant cash payout.

That’s why I reached out to a dividend expert, Ben Reynolds, to talk about dividend growth investing.

In this exclusive interview, Ben shares his secret to picking dividend growth stocks and how you can get the best of both worlds with consistent cash flow and price appreciation. I’ve transcribed the interview below so watch the video or you can read the transcription.

The video is part of our expert interview series on the Let’s Talk Money YouTube channel. I’m bringing you the very best experts in beating debt, making more money and making your money work for you. Click through to check out the other interviews and subscribe free to the channel.

What is Dividend Growth Investing?

Joseph: Today’s interview is with Ben Reynolds. He’s had the SureDividend website since 2014, helping investors grow their dividend portfolio with dividend growth investing. Ben, thanks for being with us and offering your insight into dividend investing.

Ben: Absolutely! Glad to be here,

Joseph: So let’s get started! I think a lot of people know about dividend investing, they know what the power of some of those like those cash yields are, but maybe they’re not familiar with dividend growth investing.

What’s dividend growth investing and how is it different from growth stocks? What are some of the criteria you use when you pick stocks?

Ben: Well, with dividend growth investing it’s all in the name. It’s you’re focusing on rising dividend income over time instead of just, “How much income can I get this year?” without thinking about future growth. You’re focused on the long term prospects of the business, “Where is it going to be in 5 or 10 years?” instead of, “What stock has the highest yield in the market today?”

With that longer-term focus, the metrics that are important. The first thing to look for is a business with a competitive advantage and that’s really a qualitative thing. There’s not a competitive advantage segment on the financial sheets.

Specific metrics I like to look at dividend yield because all our things being equal even as a different growth investor, you still prefer a higher yield to a lower one. That’s one thing to look at.

Another important thing to look at is the dividend history and the corporate history of the business.

What we’re looking for here is, if you take a company like say a Coca-Cola, they’ve been around since well over 100 years. They’ve been paying rising dividends every year for over 50 years. So there’s a pretty good chance that probably going to continue versus a stock that maybe was founded in 2012. So dividend corporate history is important.

Dividend growth, we also look for growth. And it’s important to say growth, not just revenue growth but growth on a per share basis. So ideally that’s earnings per share growth or maybe something like book value per share or dividends per share. And those are the core metrics that I’d say we look at.

How to Pick Dividend Growth Stocks

Joseph: Okay. So now when you’re picking stocks do you have a certain cutoff for some of these? For example, must the company have grown dividends by a certain percentage annualized? Or you just kind of compare stocks and then pick maybe the top two or three?

Ben: What we do is, we don’t have a cut-off, we have a ranking system; we call it the eight rules of dividend investing. We rank stocks on a variety of different metrics that have historically, either improved returns or reduce risk.

Some of them are the ones I just said but there’s a few others; low volatility, share repurchases, things like that.  With those rankings, then we look at the top stocks.

What Returns Can Investors Expect with Dividend Growth Investing?

Joseph: What kind of the long-term average return are we looking at for dividend growth investing? As far as price appreciation and then maybe even cash yield, what can investors expect?

Ben: The interesting thing about dividend growth investing is, in general, the yields aren’t much higher than the market average. Obviously there’s a lot of exceptions there but just kind of on average, the yields aren’t extremely high, it’s more focused on the dividend growth.

With the market as a whole, over the long-run, about 40% of market returns have come from dividends. So I’d expect that to be about the same for a dividend growth strategy. Then as far as the returns for a dividend growth strategy, there’s a couple interesting studies to look at here.

Passive Income Dividend Returns on Market

Share of Stock Market Returns from Dividends and Price

One is the performance of the dividend aristocrats over the last decade. The dividend aristocrats are stocks with 25 plus years of rising dividends in the S&P 500. There’s about 50 of them right now and the dividend aristocrats index has outperformed the market by about 3% a year on average over the last decade. And they’ve done it with lower volatility.

So that’s exciting to me.

Then another long-term study to look at is Ned Davis Research does a lot of research on dividend investing and dividend growth investing. One study they’ve done is from 1972 through 2013. Dividend growth stocks, stocks that have increased their dividend or started paying a dividend, had returned 10% a year over that 40-year time period.

Stocks that paid dividends but aren’t increasing them have returned 7.7% a year, and then it drops off. Non-dividend payers, 2.3% a year. And companies that were cutting or eliminating dividends, zero percent returns.

Dividend Stocks Returns

Dividend Stocks Returns

What are the Advantages of Dividend Growth Stocks?

Joseph: It brings up an important point, while you’re not looking for that huge cash return the dividend yield, I think there’s more price appreciation return in these that a lot of people don’t realize.

Obviously if you’re looking at dividend growth over time and investors are valuing that price per earnings at a consistent level, then as that dividend growth increases, the price is going to increase as well just by function of the investors getting that that extra dividend.

So I think a lot of these stocks the dividend yield may stay consistent, but that’s only because the price is going up along with that dividend yield. So a great total return from price as well as dividends. What are some of the advantages of dividend growth stocks over maybe another theme maybe say value investing or just passive index investing?

Ben: That’s a really good question. I personally invest only in dividend paying stocks or some MLPs that pay distributions. I’m not the type of person that’s going to say, “Only dividend growth stocks.”

There are good arguments for index investing, there are good arguments for value investing.

My favorite part about dividend growth investing or I feel the biggest advantage is that it’s focused on the underlying business and on long-term returns. You’re looking at the business and the advantage there is that it’s easy to invest in a bull market but when recessions occur, that’s when you find out what you’re really doing.

If you’re focusing on your dividend income like, “Hey, my stock prices are down 30 % or more, but my dividend income’s not. My dividend income is up a little bit this year.” That, I think, is the real advantage in dividend growth investing.

What are the Risks to Dividend Growth Stocks?

Joseph: Sure. That’s a good point. You know, they say dividends are the only investment that has had a 100% track record. Every year, dividends are going to be positive return because you’re receiving those dividends. So that’s going to be a cash return whether the stock market goes up or down.

dividend growth investing strategyI think focusing on those dividends can help investors, not only smooth out their return, but also freak out less in a stock market crash. Avoid some of those panic selling mistakes and bad investor behaviors. It’s a good part of a dividend investing strategy to keep from committing some bad investor mistakes.

What are three risks that you would say come with dividend growth stocks?

Ben: The risks of a dividend growth investing strategy are probably the risks of any equity investing strategy. A big one would be, are you buying at a reasonable valuation?

I would say most dividend growth stocks are overvalued today. This is not a time to say, “I’m going to buy every dividend growth stock out there.” There’s been a lot of money flowing into that space so it’s dangerous to kind of go in there blind and invest in a stock that has a price-earnings ratio of 15 for most of its history and now it’s at 25 times its earnings. So you have to be part value investor here as well.

Another risk that’s more difficult is when will these businesses lose a competitive advantage? Twenty-years ago, Coca-Cola had a huge growth runway, soda is still popular but its declining a little bit in developed countries. It’s still on the rise in emerging markets but in the US, people are drinking less soda every year.

I think Coca-Cola  will be fine because they do so many others things, they have so many other beverages. But when is that competitive advantage going to not be an advantage anymore is an important risk for a lot of dividend growth stocks?

Is there going to be a dividend cut? That’s a big risk. That’s something you have to look at and try to mitigate. So those are the two biggest risks to look out for with a dividend growth strategy.

Joseph: I think like any like any strategy that’s geared towards higher returns or maybe eking out a little bit more, there’s always going to be those risks and that extra homework involved.

You look at some very solid bellwether stocks, GE for example last year was down almost 50% and nobody saw it coming. I think most of these stocks, they’re in mature industries, they have solid cash flows and they can adapt.

I think that’s the most important part is looking through the corporate history and seeing times when they’ve been tested, when the company has been tested by competition or by an evolving market and seeing that they have adapted.

End Interview

I want to thank Ben for his insight into dividend growth investing and some of the things he watches for to pick dividend stocks. Don’t forget to click through and check out some of those other expert interviews and subscribe to the YouTube channel.

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