Since I started investing into dividend growth stocks in my IRA account some time ago I thought people know how dividend stocks work. To my surprise many people are unbelievably lost in understanding how dividends work.
Recently, I read a post at Yahoo! The 401(k) crisis is getting worse about a man who started working at 14 and now at his 56 he has nothing saved.
Besides a liberal propaganda in the article trying to convince us to be sorry for the guy and how the system is wrong, which actually it is not, it is people who are wrong, because who prevented him from opening an individual IRA account and saving even $50 dollars a month since he started working when he was 14? I bet no one forbid him to open an individual retirement account but his poor choices.
If Tim (as his was name) started investing $50 dollars a month into his IRA and bought 1 share of (JNJ), Realty Income (O), or Coca Cola (KO), and reinvested all dividends, then after 20 years, his account would be worth little over $100,000 dollars and his dividend income would be $3,000 per quarter. If you add benefits from social security to this number, you would be receiving approx. $2,200 monthly which is enough to retire in some cheaper states of the US (commissions and taxes are not included, so for sake of this example you may want to wait 5 more years and retire 25 years later and not 20).
The shocking part of this article was the discussion below it. When I mentioned my numbers in the discussion (and of course, these are very rough numbers of calculating how DRIP would look like after 20 years) a few people asked me where anyone could pay me 12% in dividends per year and thus my numbers are totally unrealistic and off because there is no company out there who would pay you such yield and if so, it is too good to be true.
When I was reading those responses I was surprised realizing that the author of the comment had no idea how dividend growth stock investing works. If so, you would know right away that good dividend growth stocks would actually pay you a lot more than 12%. Of course, not today nor tomorrow.
And that is the greatest misconception about dividend investing. People take a look at the dividend yield today and think that 3.05% yield is nothing (although in zero interest rate environment, it is a great unbeatable yield), or yield of 1.45% is nothing to cheer about.
People make the mistake at looking at the yield today and not what the yield will be 20 years later.
If you look at the yield future, you will see a lot different story. Here are some examples what your dividend would look like if you bought 1 share of a stock 20 years ago and reinvested dividends:
||Total annual dividend
||Yield on Cost (YOC)
|(JNJ) 20 yrs ago
|(O) 20 yrs ago
|(KO) 20 yrs ago
In the table above I used today’s prices and yields as if it was 20 years ago, eliminate adding new shares, and no capital appreciation was included. The results are only to show how powerful dividend growth investing is over time and not to provide exact numbers.
Yet the example shows that after 20 years of diligent and patient investing your dividend yield will be a lot higher than it is today. Over time those great numbers will be smoothed a bit due to investing new money, but as you can clearly see, your yield can easily exceed 12% and be somewhere in the 20 – 30% range.
Yet people look at today’s yield and consider it not worth the effort.
I read claims that they can get better yield investing into bonds and be better off and safer.
It is no longer true that bonds are safer than stocks. They are exactly same volatile these days as stocks, you can lose money, but the biggest difference between a bond and dividend growth stock is the growth.
From the example above you can see, that your 1 share of Coca Cola would yield 67.35% 20 years from now, while the bond will still yield the original 4% (for example) yield. There is no growth in it. And you bought your bond at par, you actually lose money.
Investing into dividend stocks is not about yield today, but yield in the future.
As soon as I explained this concept, I got slammed with an argument, that it is impossible to get a safe stock and predict the future knowing what the stock will do 20 years from now.
While the argument of predicting future is valid, it is not so when reviewing dividend growth stocks.
Of course, in the market, everything can happen, yet history can be a good guidance to us when evaluating stocks. Therefore jumping directly at yield may be a suicide. Looking at the dividend history can tell you, what the future may look like.
Let’s compare two companies again:
Johnson & Johnson (JNJ)
The company pays dividends since 1944 (71 years)
The company increased the dividend for 52 consecutive years!
What is the probability that this company will continue perform so well? Although it is not 100% the stake is quite high.
Atlas Resource Partners, L.P. (ARP)
The company pays dividends since 2012 (3 years)
The company increased the dividend for 2 consecutive years!
What is the probability that this company would continue paying its dividend in the future and keep increasing it?
See the difference?
Although I am not saying that ARP is a bad investment, if I was to choose which stock to buy, it would be a JNJ. There is a higher chance that they will pay dividends in the next 20 years and continue increasing it.
To add more stress on the power of dividend investing here are one more powerful and interesting numbers. If you start investing and reinvesting dividends via DRIP, you will literally double your dividend income every 5 years for the first 20 years. If you wait longer, it then spikes into unbelievable levels.
To illustrate my point I used data from my ROTH IRA account, normalized them and here are the dividend results at different years:
As you can see, once you go over 20 years, your dividend income more than doubles every 5 years from $7,489.10 annual dividend at the end of the year 20 to $18,472.96 at the end of the year 25 and to $54,599.50 at the end of the year 30.
Also your account value almost doubles every 5 year once you get over 20 years!
And this doesn’t take into account capital appreciation of your stocks and the fact that over the course of that 20 years (if not more) you will be saving and adding more money to your account growing your dividends faster.
The numbers speak for themselves. Give your investment time to grow, reinvest all dividends, invest into good dividend companies even if you can afford only very little every month, and start very early. Start as soon as you learn counting numbers. I teach my kids investing, I started an account for them and every time they get an allowance, they invest it and reinvest dividends. They are 10 and 13 and I hope one day, when they see their little accounts growing, they will appreciate this strategy even more.
And everybody has this same opportunity even Tim from the article at Yahoo! the only thing you have to do is to be willing to do something for yourself, learn and avoid the liberal propaganda of dependency. That will always keep you in the poor house.
Do you have any questions about dividend investing? I am always open and free to help or provide my experience. Do not hesitate to ask. Even $50 dollars monthly savings can make a huge difference in your life. I can see it myself and the only thing I regret is that I haven’t started early.