I have researched dividend paying companies for a decade. As a result, I have built a large database of dividend stock analyses that supported each of my decisions. I can afford to look back years after making an analysis, and seeing what worked, and what didn’t. I can also look back at my buying decisions, selling decisions, or the decisions to not do anything about a company, and see if these were smart or dumb in retrospect. I believe that every investor should evaluate their investments at least once per year, in order to improve themselves. It also helps to keep a diary of investment decisions, in order to see room for improvement over time. Regular reviews of my transactions have uncovered a lot of helpful tips for improvement. These reviews have also shattered a lot of my pre-existing beliefs.
I have found that I do not know in advance what the best performers will be. For example, I have been a big supporter of certain companies over others. However, the companies I was most confident about did not do as well as the companies I added without much confidence. This is why it is important to create fail-safe mechanisms that will propel the portfolio forward, even if you make mistakes. And believe me, you will make mistakes, which will be evident but only in retrospect.
The best lesson is that my basic analysis of quantitative factors have delivered better results than my analyses where I would review annual reports and press releases. In general, my evaluation of decisions uncovered that increasing the amount of information about a company did not add any incremental benefit. There has been a point of diminishing returns for me.
On the contrary, when I wrote up detailed qualitative analyses I sometimes ended up justifying decisions that the data was starting to disagree with. Some call that having biases. It seems to me that evaluating qualitative factors is important. However, by looking at a company that already has a track record of annual dividend increases, I am already looking at quality companies. Further research has not really added extra value for me. That doesn't mean I won't continue doing qualitative analysis - but it means I should be aware of my shortcomings when I do it. At the end of the day, just like anything else, there is a fine line of just getting to the right amount of information about company quality. You want to get just enough information to see if a company is a quality one, without getting so much that you get caught up pounding the ideology too hard in your mind.
The winning combinations in my portfolio over the past decade have been:
1) Purchasing companies which grow earnings and dividends
2) Sustainable dividend payout ratios
3) Paying no more than 20 times earnings
4) Having a diversified portfolio, and buying a variety of companies
5) Weighting portfolio holdings as equally as possible
6) Putting money to work every single month, no matter how bullish/bearish everyone else is
The best performing companies for me were those with rising earnings per share, which pushed dividends and share prices upwards.
I have also learned that a large portion of the companies I have sold, ended up doing much better than the companies I replaced them with. This is where I believe that I should be as passive as possible when it comes to my dividend portfolio. The decision to do nothing is a smart one, because it reduces the impact of errors I make, as well as taxes and commissions on investments. Most years have been characterized by almost no selling (other than the occasional buyout). However, I have occasionally sold something to buy something else. Those have usually been mistakes.
I have found that having a widely diversified portfolio has been extremely helpful in my situation. I do not subscribe to the philosophy that I should invest in a concentrated portfolio of my best ideas, because I do not know what my best ideas would be in advance. In fact, my best investments have been the companies that I never called my best investments.
This is different than what the superinvestors of the world do. For example, there is this Buffett quote, which many use as reasoning for having a concentrated portfolio of a few investments: "Diversification is protection against ignorance. It makes little sense if you know what you are doing.
Well, I do not think I am a superinvestor, which is why I do not think it is smart to emulate them. I believe that having a widely diversified portfolio serves as a protection for most investors that are not Warren Buffett. I believe that the world is so complex, that no matter how much you research a company or an industry, there are always hidden risks or surprises that could torpedo your portfolio. Therefore, it is impossible to know everything about a company in advance, though it is likely to get some edge on average by studying a lot of companies. Perhaps, someone like Buffett can connect the dots in a way where there are few surprises for him. But for most other Buffett wannabees, the best course of action may be to be more humble, stay extensively diversified.
To summarize, I have found that I cannot know everything about a company. This I take a more moderate approach to portfolio building. I am seeing super investor Bill Ackman or the Sequoia Fund lose so much on their concentrated bet on Valeant (VRX). These are really smart people. This is why I tell myself I need to be more humble. The risk of something going wrong to me is not worth it with a 20 position portfolio (5% weight). I can live better with a blow-up if a owned say a 1% - 2% stake in given company. The thing is that I never really put a limit on number of companies to own – over time the availability of good companies to invest in varies. Plus you get splits/spin-offs etc. Since then, I have come to believe in a method where I do as little touching of positions, I am fine with more companies. Plus, I have found that the closer I get to the dividend crossover point, the more conservative I become. I have found that investing $10,000 is different than investing $100,000 or $1,000,000 etc (or insert a zero). I can afford to lose $10,000, because I could theoretically save that amount anywhere from a few months to a couple of years. But I would hate to suffer permanent losses on capital with $100,000 or $1 million. The latter two sums would take a long time/lifetime to accumulate.
Relevant Articles:
- Buying Quality Companies at a Reasonable Price is Very Important
- My dividend crossover point
- Why do I own so many individual dividend paying stocks?
- The Perfect Dividend Portfolio
- Concentrated versus Diversified Dividend Investing