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Safely Generating Income in Retirement

Posts Tagged ‘LOW’

Building a “Dividend House”

Posted by mounddweller on February 26, 2018

Fellow Investors,

I am a frequent reader of articles on Seeking Alpha (www.seekingalpha.com).  There are several superb analysts who write regularly on the site.  There are also an innumerable number of hacks.  It doesn’t take long to tell which is which.  There are also many individuals, like myself, who just like doing their own analysis and publishing the results.  One such individual goes by the non de plume, “Dividend House.”

“Dividend House” is a person nearing retirement age who decided to take the bull by the horns, divest her and her husband’s portfolios of mutual funds and start investing in dividend growth stocks (DGI).  In order to make sense of her portfolio she devised a wonderful analogy of the stocks in her portfolio as being sections of a house, i.e. foundation, walls, roof, etc.  If you’re so inclined you can read about her Dividend House model here: https://seekingalpha.com/article/3791466-build-dividend-house-stocks-go.

Recently, Dividend House, posted another article discussing the possible need to replace one of the stocks in the foundation portion of her portfolio.  The stock she was considering replacing was Owens & Minor (OMI).  OMI is a healthcare company with an excellent record of growing dividends.  However, in recent years, the turmoil in the healthcare industry has wreaked havoc on its business model and forced it to adapt or die.  For this reason Dividend House was considering removing it as a foundational stock.

After reviewing Dividend House’s criteria for foundational stocks and the overall methodology for building her portfolio, I made the following observations:

  • With over 60 stocks, she had too many stocks in her portfolio, and
  • Stocks that form the foundation of a portfolio should very rarely need to be sold.

I told her if it were my dividend house I would simplify the criteria for foundational stocks to only include those which met the following:

  • Stock must be a Dividend King (50+ years of annual dividend increases)
  • Dividend growth must have exceeded and have a reasonable expectation for continuing to exceed the annual rate of inflation.

My rationale was simple as well. The overall goal of the portfolio is to provide a safe and growing stream of income in retirement. She also want to sleep well at night (SWAN). A dividend king stock has proven to be resilient in all kinds of markets and economic conditions. As long as you can reasonably expect its business model to continue to be successful and its growth to exceed the rate of inflation nothing else should really matter.

I would also have fewer stocks in my foundation. Foundational stocks should be big, ‘cornerstone’ size investments. I would have more, smaller positions in my wall stocks and even more and smaller positions in my roof stocks.

After writing these comments, I decided I would spend some time coming up with what I thought would be a good foundation for a DGI portfolio.  However, before doing that I had to come up with a methodology for how I would build my own dividend house.

First, the foundation.  I previously referenced my simple criteria for selecting foundational stocks.  I also decided that foundational stocks would constitute 50% of my total stock portfolio and that each position would be less than 5% of the total stock portfolio.  Thus, my foundation would consist of no more than 10 stocks.

Next, are the walls.  The criteria for wall stocks is similar to those of the foundation.  The only difference being that the stock must be a Dividend Aristocrat, having increased its dividend annually for at least 25 years.  The walls would constitute 25% of my overall portfolio.

The criteria for stocks in the roof of my dividend house would consist of equities that have raised their dividends annually for at least 10 years.  In aggregate, they would constitute no more than 15% of my DGI portfolio.

Finally, I would also have a garden section of my dividend house.  This would consist of ‘up and comers’ in the world of DGI stocks.  They might not have any record of annual dividend increases but have the potential for rapid revenue growth and eventually might become consistent dividend growers as well.  The garden would constitute no more than 10% of my total DGI portfolio.

After building this framework I then spent some time determining what stocks should be placed in the foundation of my dividend house.  Using David Fish’s latest DGI spreadsheet which you can find here: http://www.dripinvesting.org/tools/tools.asp, I found that there are currently 27 companies that qualify as Dividend Kings, i.e. having raised their dividend annually for 50+ years.

As you might expect many of the names in this list are well known large cap stocks.  However, I also found several smaller, lesser known stocks which have very enviable dividend growth records.  To determine which 10 of the 27 stocks would best fit in the foundation of a DGI portfolio I decided to use the following criteria:

  • 10-year annualized growth rate of dividends
  • 10-year yield on cost (YoC), assuming investor had purchased stock 10 years ago at the 52-wk low.
  • 5-year YoC, assuming investor had purchased stock 5 years ago at the 52-wk low.
  • Free cash flow (FCF) payout ratio using the most recently available data. In most cases this was the fiscal year 2017 data, but in some cases was the trailing 12 months, and in a couple of cases was the 2016 fiscal year data.

7 of the 10 stocks selected were in the top 10 of the 10-year average growth rate of the dividend,
8 of 10 were in the top 10 of the 10-year highest yield on cost, 7 of 10 stocks selected were in the top 10 of the 5-year highest yield on cost, 4 of 10 were in the top 10 of the FCF payout ratio, and 3 of 10 were in the top 10 of all four criteria.  The results of my analysis are contained in the below table.

The 10 stocks I selected for the foundation of my dividend house, listed in alphabetical order are as follows:

  • Minnesota, Mining & Manufacturing (MMM), now more commonly known as 3M, is a large cap conglomerate which has increased its dividend annually for 60 years. I selected MMM because of its enviable ability, despite its size, to grow its dividend at a double digit rate.  It also has a very high 10-year YoC.
  • Colgate Palmolive (CL) is a well-known manufacturer of personal care products. It too, is a large cap stock.  It has increased its dividend every year for the past 54 years.  I selected it because of its high single digit growth rate in dividends as well as its leading position in a recession resistant industry.  People are never going to stop buying shampoo and toothpaste.
  • Genuine Parts Co. (GPC) is a lesser known but well respected manufacturer and retailer of replacement auto parts. It has increased its dividend annually for 61 years.  GPC is one of those companies that you rarely see mentioned on CNBC or on the lips of your friends as a stock tip at a cocktail party.  I selected it because it too is in a recession resistant industry and despite not being in the top 10 of 10-year average dividend increases, its annual dividend increases have handily outpaced inflation.  It also was in the top 10 for both 10-year and 5-year high YoC.
  • Hormel Foods (HRL) is a well-known name in the food manufacturing industry. It has raised its dividend for 52 years.  I selected it for its recession resistant business model and the fact that it was in the top 10 of all four of my selection criteria.
  • Johnson & Johnson (JNJ) is one of the most well-known and respected companies on the planet. It is a large cap stock that is diversified across the healthcare and pharmaceutical industries.  It has raised its dividend annually for 55 years.  I selected it for its consistent growth.  In my opinion, no DGI portfolio would be complete without it.
  • Lancaster Colony (LANC) is an amazing hidden gem. Like HRL, it operates in the food manufacturing industry.  It has zero debt and has raised its dividend for 55 years.  I selected LANC for its conservative balance sheet and its focus on returning capital to its shareholders.  Not only does this company pay out a growing annual dividend, it also pays out a special dividend every few years.  The past couple of times the special dividend alone has equaled 5%!
  • Lowe’s (LOW) is the well-known home improvement retailer. This large cap stock has also increased its dividend for 55 years.  I selected it because it was one of only three stocks that were in the top 10 of all my criteria.
  • Nordson Corp. (NDSN) is another one of those hidden gems I found. Prior to doing this research I had never before heard of it.  It is a manufacturer of packaging machinery.  It has increased its dividend every year for 54 years.  Despite it having a very low initial yield, it has one of the highest 10-year YoC.
  • Target (TGT), like JNJ and LOW, is another one of those household name stocks. It operates as a big box retailer.  It has increased its dividend for 50 years.  I selected it because despite its well published hiccups of the past several years (data security and amazon competition) it has managed to continue to rapidly grow its dividend.  It was also one of the 3 stocks which were in the top 10 of all of my criteria.
  • Vectren (VVC) is a lesser known utility stock. It operates both regulated gas and electric utilities in the Midwest.  It has increased its dividend annually for an amazing 58 years.  I selected it as the one utility in my foundational portfolio and also because of its conservative, slow growth, operations.

Before wrapping up this post I want to briefly comment on two prominent Dividend Kings that are conspicuously missing from my pick of foundational stocks.  They are Coca Cola (KO) and Procter & Gamble (PG).  Both of these companies, while continuing their streak of annual dividend increases, 55 and 61 years respectively, have faltered in the past several years.  Neither company was in the top 10 of any of my selection criteria.  I own KO in my current portfolio and as a result of this analysis I am considering replacing it.

Best Regards,

Troy

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July 2014 Results

Posted by mounddweller on August 9, 2014

Fellow Traders,

I’m slow to post my monthly results again.  I think it is partly the result of my apathy towards this market.  As I mentioned last month I’m finding it harder and harder to identify trades which meet my level of comfort with regard to risk vs. reward.

However, that being said I did do a few trades during the month of July.  Let’s see what my closed trades looked like.

I closed 5 trades in July, netting $1,357.84.  The bulk of my profits came from a long-held position in INTC.  You may recall back in April I sold JUL and AUG calls on INTC at strike prices of $27 and $26 respectively.  At expiration in JUL my shares were called away at $27.  This resulted in a gain of $851, over $4 per share.   I chose not to roll my options out and up simply because it has been my experience that chasing a stock up doesn’t work.  I’d rather allow the position to be called away and then start again fresh when the stock inevitably takes another dip.

My other closed trades in July were in LOW, GIS, NUE, and XLNX.  With LOW and XLNX I bought back my puts early, locking in a profit before expiration.  GIS and NUE were held to expiration and expired OTM.  My average holding period for the four trades was 16 days.  GIS was the longest held at 25 days and XLNX the shortest at 6 days.

In July I also initiated 3 new trades and rolled out one existing trade.  My new trades were in MAT, TROW, and QCOM.  The existing trade I extended by rolling out was in the $VIX.  More about that in a few weeks when I report my AUG results.  So here’s what my 3 new trades look like:

(1) On 7/17 – STO 4 MAT AUG $35 puts at $0.35.  I got in a little early but I liked this trade because MAT is oversold, beaten down, and has been left for dead.  Had I waited a few more days I could have gotten $0.50 for my puts.  MAT has strong support at $35 and pays a quarterly dividend of $0.38/share.  If MAT slips below $35 at expiration my plan is to take assignment and sell the SEP calls while capturing the next dividend on 8/25.  While MAT is not on my long-term hold wish list, should I be assigned I wouldn’t mind owning it at the current price and holding it until it recovered.

(2) On 7/24 – STO 1 TROW AUG $80 put at $1.35.  Clearly I was early on this one as well.  The stock has continued to move south since I sold my put.  On Friday it closed at $78.11.  Unlike MAT, TROW is on my long-term hold list.  I want to build a ‘hold forever’ position in TROW, reinvesting the dividends until I’m ready to retire and then living on them in retirement.  For this reason, should TROW close ITM I will accept assignment and begin collecting the modest, but rapidly growing quarterly dividend of $0.44.  It has increased its dividend every year for the past 27.  In the past 5 years the dividend has grown 76%, from $0.25 to $0.44/qtr.

(3) On 7/24 – STO 2 QCOM AUG $74.50 puts at $0.60.  This trade has taken me on a wild ride.  The first week I felt like a genius.  However, on 7/31 my puts went ITM so I immediately rolled down and out two weeks to the AUG29 $74 puts for a net credit.  However, you’ll have to wait until SEP to hear how the wild ride ends because on 8/1 QCOM took another dip and I had to roll further out and down to the SEP $72.50 puts.  I’m no longer feeling like a genius and hope that I’m able to extract myself from the trade with all of my money if not my pride intact.

Well that’s it for another month.  If I get so motivated and find some time I may post again this month telling you a bit more about the stocks in my dividend superstar list and which ones I’m looking to accumulate long-term for my retirement.

Best of luck to my fellow traders.  Be safe out there!

Regards,

Troy

 

 

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May 2014 – Results

Posted by mounddweller on June 1, 2014

Fellow Traders,

My results in May were kind of a mixed bag.  I had some trades that worked well and others that didn’t.  The frequency of my trading was impacted by several factors:

(1) responsibilities at my day job increased and so I have less time to follow my trades during the day,

(2) my personal life has also become more hectic, and

(3) the seemingly irrational movement down in volatility means premiums are very low and thus the risk/reward ratio does not seem favorable to me.

With that as a back-drop let’s look at the results of the trades I did make this month.  First, let’s look at the closed trades.

(1) Coca Cola (KO) – I am building a long-term position in KO.  While accumulating shares using dividend reinvestment I also want to be opportunistic in selling CCs against my existing shares and selling NPs until assigned to acquire additional shares.  On 4/16 I sold MAY $40 calls at $0.82 believing that KO had peaked and was destined to head back down for a short period of time.  Unfortunately, this was not the case and so on 5/14 I had to buy back my MAY $40 calls at $1.14 to avoid having them called away.  This resulted in a loss on the trade.  I am planning on re-entering the trade again when it appears KO has peaked and is ripe for a short-term fall.

(2) Kinder Morgan (KMI) – Like KO, I want to build a long-term position in KMI.  I feel KMI is a bargain at current price levels.  Consequently, for the past several months each time KMI approaches $32.50 I sell puts at this strike price.  On  4/25 I sold MAY $32.50 puts at $0.50.  These puts expired OTM on 5/14.  Thus, net of commissions my ROIC was 1.45% with a holding period of 22 days.

(3) Family Dollar (FDO) – I have made a couple of trades in FDO in the past 3 months.  Both were profitable.  My latest trade was initiated on 3/21 when I sold the APR $57.50 puts for $0.96.  As many of you are aware FDO has been volatile these past several months due to lackluster performance and rumors of them being bought.  Consequently, I had to roll my position down and out to the MAY $55 puts.  These MAY $55 puts expired OTM on 5/17.  My ROIC on this trade in FDO, net of commissions, was 1.38% with a holding period of 57 days.

(4) Franklin-Templeton (BEN) – Like FDO, I have made a couple of trades in BEN these past few months.  Both were profitable.  My latest trade was initiated on 4/7 when I sold the MAY $50 puts at $0.70.  These puts were never in danger of becoming ITM and expired OTM on 5/17.  Net of commissions, my ROIC was 1.32% over a holding period of 40 days.

(5) Lowe’s (LOW) – I initiated my trade in LOW back on 4/7, selling the MAY $46 puts at $0.75.  On 5/6 I had to buy back the MAY $46 puts and ended up selling a higher quantity of JUN $44 for a net credit.  On 5/23 I was able to buy back the JUN $44 puts for $0.19, thus closing out the trade early.  My ROIC, net of commissions, was 1.99% with a holding period of 46 days.

(6) Procter & Gamble (PG) – This was my very first Bollinger Band (BB) strategy trade.  The basic premise of the strategy is to buy stock and/or sell NPs as a stock is bouncing off it’s lower BB.  PG seemed like the perfect set-up and a low risk trade for my first attempt at mastering this strategy.  PG hit and bounced off it’s lower BB on 5/21.  On 5/22 I bought shares of PG at $80.20.  Looking at the chart I believed PG would be able to make it back up to the middle of the BBs (essentially the 20-day MA).  Alas, this was not the case.  The stock’s rise stalled out before even hitting $81.  Not wanting to risk large losses I sold my shares as soon as it became apparent to me that the trade wasn’t going to work out.  On 5/27 I sold my shares in PG at $80.27.  Net of commissions I lost about $10 on the trade.

(7) Exelon (EXC) – Yes, believe it or not I am out of EXC with a profit!  Long time readers of my blog will know that I’ve been working my way out of this position for a very long time.  This trade actually started in APR 2010 by selling puts at the $42.50 strike.  A lot has happened since then.  I’ve collected four years of dividends, sold CCs and NPs numerous time and have had stock put to me and called away at least once each.  Through all of this I was able to reduce my net cost.  Finally last month, prior to EXC going ex-dividend, I sold CCs at the $35 and $36 strikes.  A portion of my shares were called away from me at $35 by someone wanting to capture the dividend.  The $36 CCs expired OTM.  I will be receiving the dividend on these shares.  It should hit my account later this month.  Then, this past week, I sold all of my remaining shares at $36.10.  The final result will be a ROIC of around 12% but the holding period is just over 4 years so the annualized return while beating US Treasuries is nothing to brag about.  What I will brag about though is that I refused to give in and exit the position at a loss.  By selling NPs and CCs when the opportunity presented itself and collecting the dividends over time I was able to successfully exit the trade.

(8) Microsoft (MSFT) – On 5/6 with MSFT at $39.06, I sold the 30MAY $38 puts at $40.  This past Friday those puts expired OTM.  My ROIC was 0.98% with a 24-day holding period.

Now let’s look at the new trades I opened this month.

(1) Back on 5/12 I expanded my long position in $VIX JUL $14 calls.  I bought 2 more calls at $1.95.  Thus far this trade isn’t looking very good.  The market continues to defy gravity by going higher while driving the VIX lower and lower.  The long expected summer slump has yet to occur.

(2) Lastly, I sold more puts on EXC.  I know, I’m stupid.  I can just hear you saying, didn’t you just get yourself out of a long-term losing trade in EXC.  Yes, I did.  However, in this case the market is moving in my direction.  When I originally opened my trade in EXC back in 2010, I thought the stock was bottoming out.  Alas, it continued to fall much further than I thought possible.  This time, I waited until I was sure the market was moving in my favor.  Back on 5/20 I sold the JUN $33 puts at $0.35.  EXC was trading at $34.04.  Friday, it closed at $36.83.  Thus, I should be able to buy to close my puts for pennies on the dollar in the coming week.

Well, that’s it for this month.  As I mentioned at the beginning of this post, I have slowed the pace of my trading substantially.  Put premiums are extremely low right now.  I’m keeping my ‘powder dry’ until things pick back up again.

Best of luck to all my trading friends in the coming month!

Regards,

Troy

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April 2014 Results

Posted by mounddweller on May 4, 2014

Fellow Traders,

My reportable results for April are kind of sparse.  I only closed 3 positions, netting a whopping $337.95.  The total capital employed in these trades was $35,750 with an average holding period of 62 days.  Needless to say the ROIC was anemic and well below my desired annualized return of 15%.  I closed trades in KMI, NKE, and TGT.

During the month of April I opened several new trades, all but one of which were on stocks that I’ve traded before.  I sold naked puts on four stocks BEN, FDO, KMI, and LOW.  Details are provided below:

(1)  BEN – STO 2 MAY $50 Puts at $0.70

(2) FDO – STO 3 MAY $55 Puts at $0.80 (after BTC 2 APR $57.50 puts at a small profit)

(3) KMI – STO 3 MAY $32.50 Puts at $0.50 (after my APR $32.50 puts expired OTM)

(4) LOW – STO 2 MAY $46 Puts at $0.75 (new trade, have never traded LOW before, hence modest amount of capital placed at risk)

I also opened covered call trades on EXC, INTC, and KO.  Long time readers will recall my long-held position and saga in EXC.  Barring a collapse in the market it appears I may finally be able to exit my position in EXC not only with all my capital in hand but with a small profit as well.  I also sold covered calls against my long-term holdings in INTC and KO.  This was done with the expectation that the market is entering a period of near-term weakness and that INTC and KO will drift lower with the market.  To date that has not been the case, however, with INTC I have until August to be proven correct and in the case of KO I am prepared to roll out my MAY calls as needed to prevent the shares from being called away from me.  Here are the specifics of the covered call trades I placed in April:

(1) EXC – STO 3 MAY $36 Calls at $0.50

(2) EXC – STO 2 MAY $35 Calls at $1.00

(3) INTC – STO 1 AUG $26 Call at $1.45

(4) INTC – STO 2 JUL $27 Call at $0.80

(5) KO – STO 2 MAY $40 Calls at $0.82

With both INTC and KO I purposely did not sell calls against all of my shares.  Doing so allows me room to generate additional income and exit the trade profitably without risking the loss of my shares due to assignment.

Last, but not least, I executed a trade on the $VIX calls.  I am following a strategy I learned from my good friend and fellow online trader, Teddi Knight at http://www.fullyinformed.com/.

(1) $VIX – BTO 3 JUL $14 Calls at $2.70

I may expand the size of this position if the VIX continues to drift lower and gets to the lower Bollinger Band.  However, depending on the timing I may make future trades against the AUG calls.  The plan is to sell these calls when the $VIX jumps and then begins to fall back.

Well, that’s it for this month.  I have been very selective in my trading of late because I am finding it harder and harder to find trades with a good risk/reward profile.  I think we may have a bumpy summer period and that may open up a lot of trading opportunities.

Regards,

Troy

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