Saturday, January 12, 2013

Time: A Dividend Growth Investor's Greatest Ally

As a young (29, and counting) dividend growth investor, my primary ally is time. Time affords me the ability to commit investing errors, allows me flexibility and freedom in my general investment thesis and allows me the ability to compound my investment capital and reinvested dividends over many years. As a young dividend growth investor, there is no greater asset than time. If time is on your side, you have a very powerful tailwind indeed.

Let's investigate how time can help a dividend growth investor.



Committing Errors

If you make an investment blunder, such as I did recently with my investments in Telefonica (TEF), time allows you to recalculate a position and start back over again. Even though I lost some money with my TEF investment, I still have plenty of time to invest those funds elsewhere and regain my losses. If you invest with a company and later realize that this particular company no longer fits in with your strategy you can likely move on and over time you will be better off for it.

If you lose $1,000 with an investment, time allows you to write off that loss, take your capital and grow it somewhere else. If you have 20 or more years of an investment career left the odds are good that $1,000 will be regained many times over. Of course, if you're making massive leveraged bets that go sour it may take many years to break even. Even with plenty of time on your side I believe it's prudent to invest with caution, stick to your long-term plan, invest in quality and diversify.

Flexibility

Time allows you to be a bit flexible in your investment thesis and strategy. For instance, I mostly invest in quality dividend growth companies that have sustainable competitive advantages, or economic moats, that grow earnings and dividends at a rate that outpaces inflation. These companies usually have entry yields over 2.5% and are available at attractive prices relative to their intrinsic value. Companies like PepsiCo, Inc. (PEP) and Johnson & Johnson (JNJ) come to mind.

However, because I'm still relatively young and have plenty of time left in my investment career I can afford to stray a bit from this strategy. I could invest in a company with an extremely low entry yield, due to either a higher price due to higher expected growth or the fact that it simply not a traditional dividend stock. Visa Inc. (V) comes to mind here. Dividend investors with a limited time horizon and in need of income would likely take a pass on Visa due to the fact that its entry yield is less than 1%. However, if you have a longer time horizon before you'll need the dividend income to live on, Visa may be paying out a YOC of 10% or more by that time.

With plenty of time on your side you could also explore pure growth plays or high risk stocks. If the investment goes sour on you, this would be "committing an error" as discussed earlier and hopefully you could make up ground over time. I would make plays like this a limited part of one's portfolio (under 5%), even if you have a lengthy time horizon so as to limit your loss potential.

Compounding 

Perhaps the greatest power that time has is compounding. Whenever I commit capital to a new investment, I plan on keeping that money invested for the rest of my life. If the company's fundamentals change, then I roll with the punches and reevaluate my position. But, if the investment stays on track then the odds are good that over 20-30 years your initial investment is going to grow many times over.

To show you how powerful time can truly be consider that $5,000 invested into an instrument earning an 8% return annually will turn into $160,000 after 45 years. After only 10 years, however, that initial $5,000 still earning that annual 8% return will be only $10,800. The investment still doubled, but you can clearly see the effects of time. Time allows a small sum of money to turn into a very large sum if you feed it a healthy dose of patience. The preceding calculations did not take taxes or inflation into consideration, but are still illustrative.

In summary, I believe that one should always be prudent and stick to your plan. My plan involves generally investing in quality dividend growth stocks that have sustainable economic moats, a proven track record of growing earnings, revenues and dividends, and produce products that have enduring value. However, time allows someone even as conservative as me to stray from the track every once in a while and if one gets burned it allows you to learn from your mistakes. While experience pats you on the back and gives you a wag of the finger, time will allow you to get back on path and give your reinvested capital a gentle tailwind blow that over the course of many years will turn into quite a gust.

Full Disclosure: Long JNJ, PEP. 

This article was written by Dividend Mantra. If you enjoyed this article, please subscribe to my feed [RSS]

0 comments:

Post a Comment

Recent Posts From DIV-Net Members