The Dividend Mailbox

Are You an Intelligent Investor or a Smart Investor?

September 19, 2023 Greg Denewiler Season 1 Episode 27
The Dividend Mailbox
Are You an Intelligent Investor or a Smart Investor?
Show Notes Transcript

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Is there a difference between being intelligent and being smart? Most people would think of those concepts as one and the same. Although it may be abstract, these are two separate schools of thought entirely. You may go so far as to characterize intelligence as left-brain thinking, and smarts as right-brain reasoning. How does that apply to investing? If you’ve ever regretted an investment decision before, it may have been due to an overreliance on numbers, data, or rules, and not enough on vision.

For our 27th episode, Greg takes a step back and examines a recent blog post from Morgan Housel. He starts out by contrasting intelligence vs. smarts, then uses several examples to show how it relates to investors. He applies this mindset to everything from analyzing America’s deficit problems, to honestly reflecting on his own thought process when he sold Intel ($INTC) several months ago. Greg wraps up the episode by introducing a new stock idea, United Pacific ($UNP), and sets the stage for a deeper dive next month.

Links referenced in today’s episode are below:

Morgan Housel's blog -> Intelligent vs. Smart

Greg's newsletter on America's Debt and Deficits -> Debt, Denial, & Illusions: America Has a Spending Problem

Notes & Resources:

DCM Investment Reports & Models

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This is Greg Denewiler and you're listening to another episode of The Dividend Mailbox, a monthly podcast about dividend growth. Our goal is to stuff your mailbox full of dividend checks and make each year's check larger than the last.


Greg 00:41

Welcome to episode 27 of The Dividend Mailbox. In today's episode, we're going to dive a little deeper into the mindset of dividend growth and investing in general. At the end of the day, it's really mindset that gives you the ability to let your money compound over time. So one of the things we're going to look at is the difference between a mindset of being intellectual and then just being smart. It's a huge asset if you've got both talents, but there aren't too many people who are good at both, and I hope you see that as we go into this a little bit. Then we will finish up with— I'm going to introduce an idea that we're starting to look at. We haven't bought it yet, but hopefully, it'll give you some things to think about, so stay tuned.


Since the last episode, and you may remember, we covered a lot of the indexes, some of them dividend and some of them just the market in general. There has been a pretty big swing back to the growth side with the top five or six companies delivering a substantial amount of return recently. It gets easy to step back and say, “Well, is this strategy still working currently?” Just looking at the numbers alone, right now, dividend growth is not performing well. So in thinking about mindset and investing in general, There's a blog that Morgan Housel writes, (we'll have it in the show notes), and I think it really plays into the situation that we're currently in. When you have a big divergence of performance, how to treat that from a long-term perspective and kind of give you an idea of the mindset that you need to have as a good long-term investor.

So, If you haven't heard of Morgan Housel, his blogs are really great in regards to just thoughts about investing, life in general, and I think, you know, he's got a lot of great insights, and I would really encourage everyone to read his blog. Recently, he wrote one that's titled Intelligence vs. Smart. Most people would probably think, well, those two are pretty much the same. What his point is, is that they are two distinct mindsets and it really pays to know what the difference is and to really step back and think, “Okay, kind of where do I fit into this?” It can have a pretty significant impact on how you view investing and how you make investment decisions. One of the definitions that he uses is: intelligent people understand technical details, smart people understand emotional details. Then he goes on and defines intelligence— another definition is good memory, logic, math skill, test-taking ability, and rule-following, while just being smart is a high degree of empathy, BS detection, organization, communication skills, persuasion, social awareness, and understanding the consequences of your actions. So right away, if you start to just think about it in a corporate environment, those really are two very different things. You see this in management styles a lot. Intelligence comes down to: “Okay, I have figured out the answer here. I've done the research, I've done my homework, and this is the answer that is black and white. There's not really any debate about it. This is the answer that I've come up with.” The problem is, a lot of times, it's the answer that was right for us— based on our mindset, based on our experiences, based on how we're looking at a topic from the information that we have— but in fact, someone else with a different viewpoint can quite likely, and often does, come up with a different answer. Smart people are able to look at both sides, and they're just able to create more opportunities because they have more people at the table. Henry Ford said “If there is any one secret of success it lies in the ability to get the other person's point of view and see things from their angle as well as your own.” Well, that can be huge when you're looking at investing. We never have all the details, we never know everything that's going on out there, and somebody else's viewpoint just may have something that we have missed. And CEOs— you can see them falling into this trap. CEOs want to prove that they're intelligent and they become empire-building machines, but people are not spreadsheets. They're emotional, they're misinformed, they're status-seeking, insecure creatures, trying their best to make it through the day. As far as shareholder wealth, relating to employees, and dealing with society in general, being smart usually is just as valuable or more. But that's the side that's harder. They seem to have a whole lot more difficulty actually being smart. And one of the things that really successful CEOs do, and what you really want to find in a company, is people that have the intelligence but also have the day-to-day smarts of being able to bring people together and to create bigger opportunities.

So, I think this concept is really important because it trips up a lot of investors, in fact, most. It's something that everybody deals with. You're intelligent, or at least you think you are, or you become intelligent, you go through a big fancy MBA program, you're a financial planner, you become a CFA. I will tell you that's a big one because you think you have all the knowledge and all the skills to all of a sudden lead you to riches and fame, but you have to be smart about it. They're two different things. Another definition that I would like to use for smart is just experience. Observing how the world works takes time and that's where you start to see, “Hey, these variables don't all work together like in theory they're supposed to.” In the world of investing, it's never that easy.

And one of the biggest examples of that is you go back to 1998, when there was a firm called Long Term Capital Management. That was a big hedge fund that had several PhDs on staff. They had one or two of them, I don't remember exactly, that actually helped create modern-day portfolio theory and a lot of what investing is built on today. Practically, the most intelligent people on the planet, and through just their sheer intelligence, they thought that they had come up with the magic bullet. They knew all the right answers. They knew how everything was supposed to be correlated. And they almost took the economy down if it wasn't for a bailout from the Federal Reserve.

And then you get to 2008, and all the great— not that I'm picking on Harvard, but it's just a general term— you had all the Harvard MBAs that thought they knew that you could package a bunch of high-risk mortgages together. Carve out part of it, because in the past real estate had never declined by that much, but lo and behold, it almost brought down the whole economy again because the risk was much higher than what everybody thought.

And if intelligence was the key ingredient to investing success, you have to ask yourself, “Well, why are there 400 PhDs at the Fed and they can't seem to figure out exactly what's going on with inflation right now and whether interest rates should be higher, lower, or just exactly what the path forward should be?”

So you just have to keep in mind that knowing the numbers usually is never the whole story. And you have to realize, too, that a lot of times it will lead to overconfidence and missing a bigger picture or maybe even a catalyst that's out there. 

From a real-world point of view, an example that I actually wrote about in our newsletter several weeks ago, (which you might want to look that up),  we looked at the debt and America's deficit spending. Looking at the numbers that are presented from the Office of Management and Budget from the White House, what you see there are deficits that are forecasted all the way out to 2032 of 5%. And the first thing you think of is, “Well, that's not sustainable.” A 5% deficit long term, to put it into perspective, when you think back before 2008, we very seldom ran a 5% budget deficit. Occasionally we had a few higher, but when the economy was doing well, the budget deficit always trended back towards 2-3%. Even in the Clinton years, we had a few positive years. You have to ask yourself, “Why do we continue to run those kind of budget deficits when the economy has been growing relatively well? Or it's at least been growing ever since 2009, 2010 (with the exception of 2020), but now we're significantly back into recovery and we have less than 4% unemployment.” Well, from an intellectual standpoint, we just shouldn’t be spending that kind of money. It's very easy to start to think, we got a big problem coming here, and with a 30-plus trillion-dollar debt, bigger than what our GDP is— it's very easy to come to the conclusion that we've got some pain in front of us and it's going to have to be dealt with.

But I think the smart way to look at it is America has had problems before. We've had lots of challenges, but America has shown an incredible ability to adapt. That's been one of its key success factors. So sure, you know, the rising debt is scary, and it may in fact lead to some pain. But don't discount the other side of it. One smart way to look at it is the fact that we are a very dynamic economy. A million plus different variables working. They are constantly evolving. Capitalism tends to move capital to more efficient uses, and there's technology, there's innovation. It comes back to kind of this simple conclusion: don't sell America short. Now, that's not to say totally ignore what's going on out there, because we do have a debt issue and it's going to have to be resolved somehow. The numbers mean something, and the numbers very well are going to come in play in the future, but we just don't know how. So, don't get too single-minded in any one stance, and that's probably one of the big takeaways from this.

And as Morgan Housel points out, most intelligent people tend to be siloed in their field and they tend to totally miss what's going on in the world around them or just how interconnected the world is. So that in and of itself creates a real problem. The more you have a balanced approach, the better off you're going to be because it really takes both. You can't ignore the numbers, you have to be intelligent, you have to do the research. But you also don't want to get stuck on one train of thought or one line of reasoning. Being more flexible and being more open to potentially being wrong— it's just a really great way to look at investing and it will probably help you to become more successful.


A perfect example of being intellectual and being smart in our own experience is how we dealt with Intel. The end result was we were just probably a little too intelligent in our decision and what we did with Intel. You may remember back in episode 21, which was in March, Intel was a stock that we used to own and at that point, Intel cut its dividend. So we looked at our model portfolio and from an intellectual standpoint, we sold the stock. The reason why we sold it is because we have a mandate. We have a dual mandate if you remember, and one of the dual mandates is that we want dividend growth. So, if we have a stock that cuts its dividend— the dividend went from 36 cents a quarter to 12 cents a quarter, so basically, they cut it by two-thirds. So, therefore, we looked at that, and from an intelligence standpoint, it seemed like a pretty easy decision to make. It was purely based on the fact that you can't have a company that cuts its dividend in a portfolio that's made up of growing dividend stocks. It was almost a simple rule, and we're going to stick to our discipline, and we need to get rid of Intel. We sold it out of the model portfolio, but if you don't recall, you can go back and listen to it if you want to, because we were very clear that we're not going to sell this out of our client portfolios. And that creates an interesting dilemma because you might say, “Well, that just doesn't seem to make sense.”

Well, what we were doing was saying, look, you know, the intelligent thing to do is it doesn't fit our model, sell it. But the smart thing was: the other part of our mandate is total return. We've stated over and over that not everything we own pays a dividend. We do own things that we think there is value there, and some of them are just not going to fit the dividend growth model, we don't want to put ourselves in a box where we just have to own everything that has a dividend that meets our hurdle rate. You can't have total return without dividends, but you can't have growing dividends without dividends. So, in this case, we looked at Intel, kind of looking at it from a bigger picture, and here I'm going to use the word smart. 

You had a company that has most of its production outside of Taiwan, so if China ever decides to take over Taiwan, then it's quite possible that the U. S. is going to restrict any chips coming out of Taiwan for a while because, at that point, they'll be China-owned. Well, our thought was Intel was kind of an option against that. We looked at it as a call in case anything politically happened in that environment. And then second, part of their problem as to why they cut the dividend is they're spending a lot of money on plant. They're building new plants and these things are very expensive. They take years to build and to get into production. We thought you're going to start getting a return off of that huge investment, and that in and of itself could make the stock more appealing down the road because right now everybody is focused on the negative cash flow. And Their R&D budget is huge. It's bigger than a lot of semiconductors company's revenues are. Now, you have to be honest here. They've been off their game and a lot of the R&D has not paid off. But there's kind of a simple assumption here: “Hey, they're spending all this money. They know they have a problem; they know they need to fix it.” So there is value here, and we thought it was worth the risk to hold on to it.

Well, we sold Intel out of the model portfolio at a little below 25 a share, lo and behold, we go out 6 months, and the stock is now at 38. So, from a standpoint of, was it the intellectual thing to do to sell it? Intelligence tends to be very rule-based, and from that standpoint, it was. Dividend growth is dividend growth, and if you don't have it, then we shouldn't own it. But it wasn't the smart thing to do because obviously the stock has had a great total return since then and fortunately, we own it everywhere else. 

So every situation, you have to realize, is going to be a little different. If you're going to put a rules-based formula on something, you have to realize that you're really leaving out a piece of the company's story and what may be behind the scenes. That may be a huge piece of the value creation. This is where you really have to keep a balance of, I think, both of these mindsets. So, you have to be open to questioning your rules, and at some point, there may be an exception that you have to make, or that you should make. As I look back now... The reality is, we were probably just a little too intelligent as we looked at the situation.


Moving on, I would like to conclude with– I think this is also going to tie into the smart and intelligence theme, even more– we are beginning to look at a new idea, and that's Union Pacific. We haven't bought it yet for portfolios, for clients. It does meet the dividend threshold. It's got about 2.5% dividend, kind of in our sweet spot. It's a growing dividend, it's grown by more than 7 percent a year. And just as a little side note, they have actually paid a dividend for 124 years. So, it's really kind of a phenomenal story, yet, it's very boring. One of the interesting things about Union Pacific, and really the railroads in general, it's like, “Why would anybody want to own a railroad?”

Basically, it's a business that really hasn't changed in 150 years. You have a locomotive, you have cars, and you have a track. It's been the same key variables from day one, when the steam-powered locomotive came in and really changed the economy of the U. S. and allowed it to expand westward. From that standpoint, very little has changed. So, you would think... I want to go where there's innovation, I want to go where there's a lot more dynamic allocation of capital, where the returns are higher. There's no real excitement there. So, one of the things that we're going to look at is, “Okay, how can these things continue to sustain dividend growth, and how are they going to grow earnings?” These things have been strong earnings growth companies and one of the great things about a railroad is, basically, there are versions of monopolies. Now, they do compete against each other in a lot of different markets, so they're not a true monopoly, but one thing that you can't do is— it's virtually impossible to go out and lay any track of any distance at all. So, you're not going to have another railroad that is built in the next 25 years. It's virtually impossible to do. So, what you do have is you have pricing power, and another thing, these things are really potentially great plays on the whole green environmental trend because they are more efficient than trucks. Even though, when you see a train going down a track, you can see a little black smoke coming out of it, they are much cleaner and more efficient than trucks moving around the country. And they're great at moving goods from the coast to the inland. 

So, regarding the railroads, the intelligent thing is that these things are old, boring businesses, and there really is no clear way that they're going to change much at all. They probably won't. How much can they really milk out of productivity? Well, apparently the answer is a lot. because if you look at the performance in the last several decades, they've beat the S&P 500. And it's not just by a little, it's by a lot if you go back 30, 40 years.

Just being smart about it— number one, it's one of the bigger positions that Warren Buffett holds. That alone says something, not that he's right about everything. But the fact that in the last decade, in the last ten years, Union Pacific has outperformed the S& P 500 by about 10%. It's roughly 240 to 250%. It's a small margin, and we're just going to call it even. But, here, I just want to stress, that when you look at the S&P 500, 20% of it is made up of Apple, Microsoft, Amazon, and Facebook. These are the leading-edge technology companies of the economy and it's what everybody thinks the future is built on. Nobody looks at a railroad and says, oh, there's the future of America. You have to step back and ask yourself, “How in the world did a business as boring as a railroad keep up with that?” So, I'm just going to leave it at that until next time when we go into Union Pacific in more detail. The main reason why we're not going to go into more detail is because we're still working on the story. A big piece of the story— this is where, again, I think intelligent versus smart comes into play. It's been a great dividend grower, but there are a few pieces, like debt, where they have put some more debt on in the last several years, and one of the questions is: we want a sustainable dividend growth story, and have they pulled some of their levers that they may not be able to lean on as much? Does that potentially change the story? That's currently what we're working on. 


So, with that, I hope the takeaway that you get from our episode today is that the mindset to really be a successful investor long-term, you really need both approaches. And if you can really put together a vision where you can see value being created, that is what a lot of people miss. It's a great definition of being more smart, and to me, Elon Musk comes to mind. He's somebody who is just phenomenal at being smart as far as putting together a vision, coming up with a story, and then being relentless in trying to find the catalyst and putting the numbers together to actually make it come to pass. Because if you just look at the numbers on Tesla, what it will do is pretty much lead you straight to a position of being short in the stock because the valuation of it is totally ridiculous. But you would have run out of money a long time ago if you just would have approached it from an intellectual standpoint.

Even after 40-plus years of investing, just the concept of intelligent versus smart and reading some stuff from Morgan Housel— it has really helped me to look at the perspective and to think about both sides more intentionally. I really think that presenting this, I really hope that presenting this, helps you to become a better investor.


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