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A dividend portfolio should focus on high-quality stocks with a proven record of paying dividends
High-growth dividend stocks offer investors a measure of security. Dividends, after all, are much more stable than earnings projections. More important, dividends are impossible to fake: either the company has the cash to pay them or it doesn’t.
It’s important to make sound moves while building a dividend portfolio. That’s why we recommend looking for dividend stocks that have a strong position in their market and have a history of building revenue and cash flow.
The best stocks for your dividend portfolio dominate their markets
When we suggest dividend stocks for a portfolio we look for dividend stocks that have industry prominence, if not dominance. Our reasoning, besides brand recognition, is that major companies can influence legislation, industry trends, etc. to suit themselves. Minor firms can’t do that.
How to avoid sabotaging your dividend portfolio
You may decide to vary how much money you invest every year, depending on your view of the market outlook. But nobody can consistently guess right about the market outlook. Trying to do so is likely to cost you money about half the time.
If you invest more money in years when you’re confident about the economy or market, you may wind up buying more shares when prices are high. If you cut back on your investing in years when the outlook is uncertain, you’ll buy fewer shares when stock prices are low.
Investors may go so far as to try to improve their returns by taking money out of the stock market when they feel risk is high. They often get this urge after a few weeks or months of bad financial news or unsettling political developments. By then, however, the market may have already dropped enough to offset any negative developments.
Often, these temporary sellers wind up buying their way back into the market when the news has improved and stock prices have gone above the price where they sold.
Some brokers encourage this costly practice. From time to time, they may advise clients to “take some money off the table,” setting up a false analogy between investing and gambling. That’s in a broker’s interest.
Every sale generates a brokerage commission. It also gives the broker the opportunity to sell the client something new, and make another commission. The client may re-invest in a product that’s more profitable for the broker, using the proceeds of a stock sale to buy an annuity or a universal life insurance policy, say.
However, investors at discount brokers also manage to sell low and buy back high, without any broker’s encouragement.
In the course of your investing career, you’ll make some good guesses about market direction, and some bad ones. You may make about the same number of each. But losses due to bad guesses have a way of overwhelming any profits you get from good guesses.
Bad guesses can spur you to sell your best stock picks way too early. You may lean toward selling your best stocks because you want to lock in a profit, and your best stocks generate above-average profit. However, your best stocks may have much more potential than average to keep on rising. Sell them too early and you’ll miss out on those above-average profits.
Bad guesses can also spur you to sell your best stocks (or your entire portfolio) after a long drop in stock prices, when the downturn may be close to its end. Thanks to these two drawbacks, bad guesses can devastate your investment returns over the course of an investing career.
Avoid basing your dividend portfolio investing strategy on sector rotation
Instead of portfolio diversification approaches like ours, some investors practice “sector rotation.” That’s where you try to predict which sectors will outperform other sectors. But trying to pick winning sectors — and stay out of other sectors — seldom works over long periods. That’s because you need to guess right three times to succeed.
You have to pick the top sectors, then pick the stocks that will rise within those sectors, then sell before the sector stumbles. It’s virtually impossible to consistently succeed at all three over long periods.
How do YOU pick dividend stocks? What do the best performing ones in your portfolio have in common?
Pat McKeough has been one of Canada’s most respected investment advisors for over three decades. He is the founder and senior editor of TSI Network and the founder of Successful Investor Wealth Management. He is also the author of several acclaimed investment books. This article was published on April 27, 2017 and has been republished on the Hub with permission.
