Trust, but Verify
When you invest your money by buying shares of a company's stock, you trust the management of that company to shepherd your resources well. You're taking a financial risk, in the hope that the people running the business will generate sufficient returns on your behalf to justify the faith you place in them.
Unless you've already got enough cash or other influence to get a seat on a company's board, all you really know about what's happening in a company comes from its financial statements. Those reports, while useful, really only give you a fairly high-level, summarized snapshot of what's going on. Still, they can provide great information when it comes to figuring out how well a company is handling the cash you invest with it.
Dividends tell a story
For the real-money Inflation-Protected Income Growth portfolio, dividends do double duty as both the primary source of income for the portfolio and as a reality check on what's happening in the company. Every company in the portfolio needs to have a decent dividend with a history of increases and provide a reason to believe that dividend has a shot of continuing to grow. If the path to dividend growth evaporates, the company risks losing its spot in the portfolio.
Microsoft , for instance, is an IPIG selection that's in the process of reinventing itself to better compete with the likes of Google . Microsoft is in the process of creating a low-cost version of Windows that comes bundled with and pre-configured to use its Bing search engine. The goal is to try to effectively compete with Google's free Chrome operating system and its close ties to Google's search engine.
Competition often brings out the best in companies, but the key risk to Microsoft is the fact that its Windows operating system has long been one of the company's "cash cow" businesses. Microsoft has long relied on Windows to generate much of its revenue. If it doesn't successfully monetize the tie-in with Bing, the loss in revenue from the cheaper operating system could very well impact its ability to continue to cover and raise its dividends.
The IPIG portfolio is willing to trust that Microsoft's leadership is operating in its shareholders' best interest with the cheaper operating system as a Google fighter. Still, the portfolio will continue watch Microsoft's financial reports and dividend coverage levels to verify whether the strategy creates value.
The rewards for success
The key advantage of this method of investing is that when it works, the result is an increasing income stream from dividends. Since last week's update, the IPIG portfolio received dividends from three companies, each of which paid at higher levels than they did in the same quarter last year. The table below shows those improved payouts:
Company | March 2013 Dividend | March 2012 Dividend | Dividend Change (%) |
|---|---|---|---|
Aflac | $0.37 | $0.35 | 5.7% |
J.M. Smucker | $0.58 | $0.52 | 11.5% |
Wells Fargo | $0.30 | $0.25 | 20% |
Data from Yahoo! Finance, as of March 7, 2014.
Wells Fargo's 20% increase versus year's level was a result of the bank's recovering from the financial crisis and receiving permission from the Federal Reserve in 2013 for a substantial dividend increase. While Wells Fargo has already mentioned wanting to increase its dividend this year as well, chances are it won't continue increasing it at that 20% clip. After all, over time, a company can only increase its dividend to the extent it has enough gains in cash flows to support it.
J.M. Smucker continues to excel in its primary business of providing staple foods like peanut butter, jelly, and coffee. Its 11.5% increase versus last year's dividend was certainly supported by its success. Still, it would be a surprise for J.M. Smucker to continue increasing its dividend at that rate, as the company's expected growth doesn't look capable of supporting increases quite that high.
Aflac's 5.7% increase did come in at better than inflation, and it's closer than the other two to a growth rate that the company might be able to support for some time to come. Still, as an insurance company, Aflac is in the business of pricing risk, and it has no guarantee that it will always cover its risks with the premiums is receives.
All told, a reasonable way to invest
The reality remains that there are no guarantees in the market. By investing in a way that lets you verify that the management of the companies you own are acting in your best interest, you can put yourself in a place where you can better trust them with your money. For the IPIG portfolio, that means looking for the ability pay and increase dividends. The current snapshot from that search is the portfolio below:
Company Name | Purchase Date | Total Investment (Including Commissions) | Current Value | Current Yield |
|---|---|---|---|---|
United Technologies | Dec. 10, 2012 | $1,464.82 | $2,129.58 | 1.99% |
Teva Pharmaceutical | Dec. 12, 2012 | $1,519.40 | $1,873.40 | 1.36% |
J.M. Smucker | Dec. 13, 2012 | $1,483.45 | $1,658.18 | 2.38% |
Genuine Parts | Dec. 21, 2012 | $1,476.47 | $2,012.04 | 2.63% |
Mine Safety Appliances | Dec. 21, 2012 | $1,504.96 | $1,938.24 | 2.23% |
Microsoft | Dec. 26, 2012 | $1,499.15 | $2,084.50 | 2.96% |
Hasbro | Dec. 28, 2012 | $1,520.60 | $2,355.11 | 3.14% |
UPS | Jan. 2, 2013 | $1,524.00 | $1,964.40 | 2.73% |
Walgreen | Jan. 4, 2013 | $1,501.80 | $2,688.40 | 1.87% |
Texas Instruments | Jan. 7, 2013 | $1,515.70 | $2,154.95 | 2.62% |
Union Pacific | Jan. 22, 2013 | $805.42 | $1,125.42 | 1.94% |
CSX | Jan. 22, 2013 | $712.50 | $981.58 | 2.08% |
McDonald's | Jan. 24, 2013 | $1,499.64 | $1,528.00 | 3.39% |
Becton, Dickinson | Jan. 31, 2013 | $1,518.64 | $2,080.26 | 1.89% |
Aflac | Feb. 5, 2013 | $1,466.35 | $1,771.47 | 2.26% |
Air Products & Chemicals | Feb. 11, 2013 | $1,510.99 | $2,068.39 | 2.33% |
Raytheon | Feb. 22, 2013 | $1,473.91 | $2,734.29 | 2.17% |
Emerson Electric | April 3, 2013 | $1,548.12 | $1,836.80 | 2.62% |
Wells Fargo | May 30, 2013 | $1,525.48 | $1,774.15 | 2.50% |
Kinder Morgan | June 21, 2013 | $1,518.37 | $1,344.00 | 5.12% |
Scotts Miracle-Gro | Jan. 3, 2014 | $1,974.68 | $1,907.52 | 2.94% |
Cash | $873.32 | |||
$40,884.00 |
Data from the IPIG portfolio brokerage account, as of March 7, 2014.
Dividends are a central part of this portfolio in part because one of the dirty secrets that few finance professionals will openly admit is that dividend stocks as a group generally outperform their non-dividend-paying brethren. However, knowing this is only half the battle. The other half is identifying which dividend stocks in particular are the best. With this in mind, our top analysts put together a free list of nine high-yielding stocks that should be in every income investor's portfolio. To learn the identity of these stocks instantly and for free, all you have to do is click here now.
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The article Trust, but Verify originally appeared on Fool.com.
Chuck Saletta owns shares of Aflac; Air Products & Chemicals; Becton, Dickinson; CSX; Emerson Electric; Genuine Parts; Hasbro; J.M. Smucker; Kinder Morgan; McDonald's; Microsoft; Mine Safety Appliances; Raytheon; Scotts Miracle-Gro; Teva Pharmaceutical Industries; Texas Instruments; Union Pacific; UPS; United Technologies; Walgreen; and Wells Fargo. The Motley Fool recommends Aflac; Becton, Dickinson; Emerson Electric; Google; Hasbro; Kinder Morgan; McDonald's; Mine Safety Appliances; Teva Pharmaceutical Industries; UPS; and Wells Fargo and owns shares of CSX, Google, Hasbro, Kinder Morgan, McDonald's, Microsoft, Raytheon, and Wells Fargo. Try any of our Foolish newsletter services free for 30 days. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.
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