Wednesday, March 12, 2014

It's Not Just the Dividend, It's the Dividend GROWTH (Part 2)

I've been thinking about the dividend growth rate, and have some more data to consider.  First, I broke the Chump portfolio into two groups, sorted by dividend yield.  Everything over and under 3% (Chowder rule) are separated.

As a refresher, the Chowder Rule from a frequent contributor on Seeking Alpha, Chowder, states that you strive to find a balance between yield and dividend growth, a sweet spot, that can be monitored by adding yield + dividend growth.  Yield should always be above 3%, and dividend growth should always be above 8%.  The sum of these should always be above 12%.  This is a decent rule of thumb to find balanced stocks that can continue to grow dividends.  This also assumes that higher yield stocks tend to increase their dividends at a reduced rate versus lower yielding stocks.

Looking at my portfolio, the weighted average (based on size of holding) increase for my higher yielders was 21.56%, and 37.75% for my lower yielders.  Technically, all of my holdings below 3% violate the Chowder rule, but if you look at five year averages....most are okay.  Nevertheless, it's good to note which holdings might be slowing down their dividend increases.  

I've also plotted a 5 year forecast for earnings growth next to each holding (courtesy of FAST Graphs).  Holdings with a small dividend, small growth, and low growth in earnings forecast should be highlighted as worrisome:

- Medtronic

Both have enjoyed good price appreciation over the past year, so show low current yields.  But slowing growth coupled with a very modest dividend increase is cause for concern.

I'll keep a close eye on these two names - especially on valuation.  Below is a FASTGraph for each:

Regarding Medtronic, the yellow line above shows my average purchase cost.  I'm up 52% since purchase, and stock is still not overvalued, so I plan to hold a while longer.  I trimmed the position a bit last year, so it's still "right sized" in the portfolio.

Regarding AFLAC, I'm up 48% since purchase, and stock is still well below fair value.  I plan to hold my AFL position until the stock moves closer to fair value based on earnings.  Still a ways to go.  

This is the nice thing about have a few years left before retirement;  since I'm not living on the income, I can hold a stock for capital appreciation even if it pays a subpar dividend - at least for awhile.  But after another year, if the dividend isn't increased more meaningfully, I'll likely sell the position if I can trade up for better looking opportunity.

Thinking a bit more about AFLAC, I noticed their dividend increase was about equal to their projected growth in earnings, 6% to 7%.  Are they matching the dividend raise with eps growth? This would make some sense to me, so I checked for a correlation in my portfolio.  Here are the results:

This power curve was the best fit to the data, but still has an R squared value of only 0.154, which is pretty crappy.  Really can't draw a correlation between 5 year projected eps growth, and most recent dividend increase, which to me, is a bit surprising.  

This got me thinking, well what metric, if any, does correlate the dividend growth rate?  I played around a bit with this, and I found one....the 3 year and 5 year dividend growth rates!?  Here is data from David Fish' excellent CCC list - nice big population of over 500 stocks:

This is mildly interesting.  If you take last year's increase on the x-axis, then slide up to the best fit line, there is your prediction for the increase out three years.  The higher the initial value, the more the future value will decline, which implies that a lower dividend growth rate tends to stay at that level consistently vs. a higher DGR.

Not all that earth shattering, but if want a predictor of how much you expect your dividend to rise this year, look at last year's increase, and subtract a little.  This appears to be the best predictor available.

That's all for now.


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