Discipline Is the Cornerstone of Dividend Growth Investing

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If you want to be a successful long-term investor, you must know your discipline and be willing to stick to it. All investing strategies come in and out of favor in the marketplace and they ebb and flow over time. In 2022, we saw high growth and tech companies underperform, while dividend growth companies held up well. So far in 2023, we’re seeing the opposite. However, switching your investment strategy based on short-term performance is almost always ill-advised. Of course, having discipline is easier said than done, but gaining perspective can help. 

In this month’s episode, Greg zeros in on how discipline and dividend growth are one and the same. He breaks down some of the largest wealth creators in the market and examines what exactly is driving the current market rally. He discusses the importance of knowing why your portfolio is performing the way it is but stresses that short-term performance is unimportant for the bigger picture. Later, he looks at a few dividend growth ETFs and finishes the episode with a listener’s question about investing from abroad.  

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Disclaimer: Past performance does not guarantee future results. Every investor should consider whether an investment strategy is right for them and all the risks involved. Stocks, including dividend stocks, are volatile and can lose money. Denewiler Capital Management may or may not have positions in the publicly traded companies mentioned herein.

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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.

Welcome to episode 24 of The Dividend Mailbox. Today we're really going to hit on the topic of discipline, and the reason is, I hope, apparent as we go through this. One of the biggest problems when you invest in the market is whatever you're doing, at some point, doesn't work very well. And what the market is really good at doing is trying to get you to change your mind. It tries to get you to do something different, and usually, almost always, that never has a good outcome in the long term. So today we're going to look at how the market ebbs and flows and how the last few years’ performance was much better last year, not as good this year, but the income continues on, and that is the main point.

We want to make sure we focus on dividend growth, which ultimately leads to total return, and that's what creates wealth. So, you should get something out of this, and at the end we do have a listener question. Please, remember that if you submit a question and we use it, you'll get a Dividend Mailbox Yeti mug.

So, you all are familiar with our model portfolio, or if you've listened to our podcast in the past, it is a live account. We use it sort of as the foundation of what we do, but all of our individual client accounts are different because they do have other things in them, and they have different objectives. But back to our model portfolio, it's kind of designed to show whether our strategy is on track and kind of how we're doing overall. That's the main reason why we use it. 

So, what if I told you that year to date, versus last year at this time, year to date (for the first five months), your income was up 22%? Your first thought would probably be: “These guys are doing an unbelievable job.” Well, what if I told you last year the model portfolio earned $1,630 of income and this year, we should hit around $1,860? That's going to give us 13% growth in our income. So again, our target is 7% a year, which implies that it doubles every 10 years. But our current estimate of $1,860 for our model portfolio includes the dividend raises that we've already received this year. And we've actually got a little bit of margin of error because a few of our companies in our model portfolio have yet to increase their dividends. Just looking at the, the four-quarter cycle, a few of them are due to have a dividend bump. So our income is quite likely to be even better than what we're looking at right now. And in full disclosure, this also includes the dividend cut that we received from Intel. One of the great things about dividend growth is you can have a dividend cut and you can still maintain the growth of your income. What I would strongly suggest is go back and listen to episode 21, where are we going to Intel and how we're able to maintain and continue to grow our income. The great thing about this strategy, again, is the predictability of it. Because dividend growth stocks, the companies tend to want to stay on that growth track. As we have talked about in the past, when you look at payout ratios and earnings growth, it does put some fairly good predictability into your dividend growth stream. 

So, either way, with 22% income growth in 2022, and we're looking at potentially 13% growth in 2023, you're probably thinking things are going pretty well. The market right now, year to date, is up somewhere around 12%. Our dividend growth is ahead of that, but you have to keep in mind that there is a timing issue here. These companies will declare dividends and then they'll pay them, and it's not going to be exactly in the same period. So, you do have to keep that in mind. But the end story is we've got our predictable income growth, and we're actually ahead of our target. 

But since we're going to call this episode the discipline episode, we have to look at the complete story. When you actually look at the value of our model portfolio, it currently is down a few percent for the year. And if you look at the five month period going through the end of May in 2023, we were down 5% and the S&P over that period was up about 9%. There's a significant lag at the moment for that period. However, if you go back and you look at the full year last year— which if you guys have listened to some of our previous podcasts, you know, last year was really good for us. So, if we look at a total of 17 months, which is 12 months last year and the first five months this year, we're basically flat. The S&P 500 over that same period is down about 9%. So overall, we're still doing well, but you've had a pretty dramatic shift in the dividend space year to date. Last year they did really well, and sure enough, here we are through the end of May and things have changed.

But here's where discipline comes in. You have to understand that every strategy comes in and out of favor— growth, value, a high dividend strategy or a dividend growth strategy or technology— from last year to this year you've really seen it play out in the market where tech did really poorly last year and has just really come roaring back this year. 

Well, one thing I want to point out is— I've mentioned in previous podcasts, Howard Marks does a memo, and in one of his memos he put in there “things that don't matter.” He lists several bullet points: short-term trading, short-term events, short-term performance, volatility, hyperactivity. All of these things don't add to your long-term success. That's according to Howard Marks, but if you just look at the marketplace and how fast things can change, it's just really to your benefit to stay disciplined and stay to your core strategy if, in fact, you do have a growing cashflow. That's what creates wealth over time. So, the discipline really comes in— when things are good, great. But you don't let outperformance get you over committed. Don't just back the truck up and load everything you have into it. Part of that discipline also is you just don't jump in and buy anything at any price. You want to try to get dividend growth at a reasonable price, which means you don't want to pay too much for it and get swept up when things are going really well. When things aren't doing well, are you going to panic just because you've got a few months where you are lagging and you're lagging significantly? Actually, you start to potentially look at ideas. One of them was MTB Bank that we talked about last month, where there's some potential value there. But it really is simply, the market may reward you very well for a while, or it may make you think that you have become a complete idiot. The best thing to do most of the time is to do nothing, and that's probably the best example of discipline. Just let the long-term play out. If you want to be successful as a long-term investor, you have to be willing to stick to your discipline, and you have to know what your discipline is. Because the market— it almost seems like its job is to seduce you and to get you to change whatever you're doing. That is what creates problems, and you want to just stick to the middle of the road. 

So, in the end, dividend growth is a strategy that works and it builds wealth. We've talked about this over and over. It's not the only thing that works, but it's a great strategy that's somewhat simple to comprehend and it helps keep you on your path and keeps you disciplined.

Where we're going to go with this is it is very worthwhile to know what's driving the bus. You should always have some idea as to what is driving returns. Sometimes it's just that the market has shifted to, maybe more tech, growth, whatever. It's just good to know why your portfolio is performing the way it is, because that's ultimately what can really help you stay with your strategy and not get sidetracked by all the market headlines.

So, where we're going next is: let's just break down a little bit of why the market is doing what it's doing. Why are the numbers the way they are? And it may be one answer as to why dividend growth is not performing as well as it did last year. 

One thing I want to do is just review an article that was out in the Financial Analyst Journal last in April of 2023, and the title of it was “Long-term Shareholder Returns, Evidence From 64,000 Global Stocks.” And this is going to tie in here in a little bit to a couple of things. One, later on we're going to talk about the different dividend indexes and what's going on there because this really does impact how your performance looks. But the study that was in the financial analyst journal covered a period from January 1990 to December 2020. And the article basically looked at how wealth has been created in the marketplace. The point of this article was that wealth is created in the equity market, but it tends to be concentrated and it tends to come from a relatively small group of companies.

 I do want to define wealth creation a little bit here because it is somewhat significant. Part of what this study was talking about was total wealth creation. What I mean by that is if Apple goes from $3 trillion to $6 trillion, it has created $chi3 trillion of wealth. Well, that's a lot of money. But if William Sonoma goes from $8 billion to $16 billion, it's still doubled your wealth. It creates just as much wealth for you as a company that has a much larger market cap, but in the total marketplace, it just hasn't created near as much wealth overall. If a $3 trillion company just goes up 10%, that's $300 billion. But a small company can double or triple and not come anywhere close to creating as much total wealth. So, therefore, they're not going to make it onto this list, or they're not going to make it toward the top. But the only thing that matters is what wealth you are creating. You want higher returns, you don't really care about total market wealth creation. The big difference is, is it does drive these indexes and how they perform, and when you're in the dividend space, you are deviating from what the overall market is doing. So you do kind of have to keep this study in perspective, but that'll become a little clearer here in a second. 

So first of all, quickly going over this article, what it showed was the top 50 firms globally and how much wealth was created, and the number one, you would probably guess, is Apple. Over that 30-year period, it has created almost $2.7 trillion of shareholder wealth, and the stock has performed extremely well. This is not directly about performance, although obviously, Apple has done well. But number two is Microsoft. It's created about $1.9 trillion of wealth, and then number three is Amazon, $1.5 trillion. Exxon shows up as number 11. It was about $450 billion, and then just to kind of give you a baseline here of what this looks like, you get down to the 19th position and it's Coca-Cola. There you've got about $330 billion of shareholder wealth that's been created. Now, one of the things that you pick up fairly quick as you go on down the list— if you didn't own one of these stocks in the top five, or top 10, then you can deviate from the index dramatically from time to time. But I want to mention, you look at dividend growth and you look at the overall market, how much are you giving up? Of the to 35, 26 of them paid dividends and nine of them do not. And the top two on this list are Apple and Microsoft. And guess what? Their great dividend growth stories, the only problem with them is the yields are below 1%. So, if you're trying to live off the money, It makes it a little bit more challenging to live off their income, but as we've mentioned before, it doesn't mean that you're out of some of the best-performing parts of the marketplace.

I mean, we actually do own Microsoft in a lot of clients' accounts. It's just not in the model portfolio. However, I'd like to go into a little bit more detail about how some of these positions in this wealth creation chart, just how they've performed, and how significant dividends do impact this. In fact, when you add dividends in on these, some of these higher dividend payers— it can bring the returns back up to either close to or even exceed what the overall market's been doing.

The s and p 500 for that 30-year time space was up 962%, and if you look at the price return of Exxon, over that period of time, Exxon was up 230%. Chevron, it was up 400%. Walmart, it actually beat the S&P 500, it was up almost 2500%. You look at GE, which obviously ran into huge problems in 2008 and 2009, it was up 302% over that period. Merck was up 570%. So pretty much all these things, with the exception of Walmart, were underperforming just on a price basis as compared to the S&P 500. 

But then if we include the dividends, the S&P 500 was up almost 2000%. Let's look at Exxon. It went from being just a price basis up 230% to now we get up to 1700% not lagging the S&P 500 by that much. And then Chevron was up 400%, but you throw the dividend in there and now it's up over 1400%. GE, which has really kind of been a somewhat disaster story and a really major restructuring story for years now, you go from up 300% to now up 1400%. Still not up to where the S&P is, but the dividend kind of digs you out of a hole. Merck, which lagged by a fair amount, now we move up to 1700%. Not much behind the S&P 500. 

Well, now I'm going to take this one step further, and here's another point that you really have to pay attention to. It plays into the model portfolio where if you extend the period out by a year and five months, it's a whole different picture than just what the last five months show. If we take that 30-year period and we extend it to 2022, just tack on another two years, well, the S&P 500 goes on a total return basis from up not quite 2000% to a little over 2060%. If we use the same period for Exxon, we go from lagging the market to now it's up 2600%. Just that extra two years and with the recovery and oil prices, it has somewhat significantly outperformed the S&P 500 at this point. You look at Chevron, it's up 3500%. Now you go from, you know, lagging the market by about 20% to dramatically outperforming it. Then you look at Merck, well now you have Merck up to 2700% for a 32-year period. So, periods do make a big difference and have a huge impact. When you just look at the period of the study, things don't look so well, but you change the dates just a few years and it changes everything dramatically. 

It's a two-way street. Things can be better for a while and they can turn worse for a while. But again, it's back to the whole thing of discipline. When you're looking at some of these examples of how things perform, you have to really take into account, “okay, what's the period? What's been going on? Moving forward what is going to help drive returns? Where's the impact going to be?”

Looking at the S&P 500, the top five holdings of the S&P 500 right now; Apple, Microsoft, Amazon, Nvidia, and Google account for 24% of the capitalization of the index because it's a market cap-weighted index. So that means that they have a significant impact on returns. Seven of the stocks of the S&P 500 represent 93% of the current performance this year to date. 

What do all those names pretty much have in common? They have some exposure to AI, which has really become a big headline. It's really helped drive returns here in the last few months. So, you know, Apple, Microsoft, they've had some really significant moves here year to date, brought that whole sector back to life when last year they were dramatic underperformers.

So, it would've been really easy last year to think this strategy is doing unbelievably well, so, there's absolutely no reason to own Microsoft or Apple, and we should have sold it out of all the other accounts. But then you would've missed a huge rebound. The key is the dividend growth is there, follow your discipline and understand why you're doing what you're doing, and just stay the course. You can't second guess your strategy because if you hold good companies long enough and you let the dividends compound, that's where you really get some strong wealth creation. 

So, to continue to kind of carry this theme out, if you look at some of the other dividend growth indexes, what they're invested in can really make a pretty significant difference. Let's start with DGRW, which you're probably familiar with. We use it as a kind of foundation in our client portfolios. But the good news about DGRW is it's basically the dividend growth part of the S&P 500. So, it has some of these big names in it. The two top positions are Microsoft and Apple, their weightings are almost 15%. And then you've got Johnson and Johnson, then you go on down the list and it's more of the traditional names like Proctor and Gamble, Coca-Cola, and Home Depot. You know, that's going to be a little bit bigger factor. And this year, at the moment, it has helped because it's up, through the end of May — it's up 5% where the S&P was up a little over 10%. So, it's not lagging as much. 

It's got a current dividend of a little over 2%, which is higher than the S&P 500’s 1.5%. And the expected dividend yield for this year based on current prices and the dividend growth that's in there is around 2.4% versus the S&P, it should be around 1.9%. So, you've got a little bit better income and you're not really even giving up much tech exposure. If you want to track the market a little closer and sacrifice a little bit of dividend yield, that's going to be the answer for you, or one of them, and that's one of the reasons why we do own it.

If we move over to NOBL, which is the Dividend Aristocrat Fund, it's managed by ProShares. You may remember we did an interview not that long ago with the market strategist for, ProShares. NOBL owns— everything in it are companies that have raised their dividends for at least 25 years. Last year, it outperformed the market. You know, this year we're giving some of it back. Through the 1st of June. It's down a little over 1%, and again, you know, it's lagging the market by more. And the issue there, it doesn't have the tech exposure because Apple, and Microsoft, haven't paid dividends for 25 years, so they're not in there. But you still have the income growth there. It has an expected dividend yield this year of 2.67%, so you start picking up yield. And the other thing that's a little bit better about NOBL is that it is an equal-weighted index. So, all the components roughly have the same exposure. So, you got a little bit more diversification and you've got a little bit better dividend growth. 

So now let's go out one step further, and this is where again, you know, you got to look at discipline and you have to look at why do I own what I own? A past performer in the dividend space has been the Schwab Dividend Fund, SCHD. There for a few years, up until this year really, it was one of the best performing of the dividend-based ETFs, but this year it's down. Through the 1st of June, it was down 6.7%. It's the worst performing of our three. It's pretty much an equal-weighted portfolio, all the positions have the same weight. Broadcom is in there. There's PepsiCo, Merck, Coca-Cola, Cisco, which is a little bit of an older name now in Tech, Home Depot, Chevron, Pfizer, UPS. In this portfolio, it's a little bit higher dividend-focused, and it's not market cap weighted, so you're not going to have the top performers really helping to drive the index, but it's also got the highest dividend yield. Right now, it's about 3.7%, and the estimate for this year is that it's going to be up or around 4.7%, so you've got a better income. But when you just use that matrix to make an investment decision, you have to understand that you're really moving away from predictability and you're potentially going to give up total return. The higher dividends stuff, usually they're not growing as fast just because they're paying more of their capital out in dividends and the reinvestment opportunities, not always, but usually they're just not quite as attractive, which is why they're bigger dividend payers. 

So you always have got to look at what are you giving up? And what are you trying to gain overall? The great thing about DGRW, over time, it just doesn't stray too far from the S&P 500 because it represents more of what the S&P 500 looks like. As you go from Noble you start to move away from that. If you look at some of these tech stocks that have had big moves, “Maybe I want to skew my portfolio away from those,” which then Noble and the Schwab Fund make a lot of sense. Because from a risk standpoint, you're thinking, “I'm not buying some of those relatively expensive stocks.” So, you know, all this plays into how you manage your portfolio long-term, but in the end, the good news is all these funds are really set up to grow dividends. 

So to wrap this portion of the podcast up, the idea that I really want to stress and leave you with is we're not going to worry about the fact that at the moment we're lagging. It's just that the market has shifted. It's gone back much more toward tech. We're just not even going to worry about it because if we're getting the dividend growth and we're at least matching the S&P 500 dividend growth or better, the odds are, over time, prices are going to take care of themselves. 

So now to our listener question, and we've had a version of this in the past. Just to paraphrase, it's “How do you deal with companies that are international where they don't have the same dividend discipline as far as consistency? They tend to just pay out a share or a percentage of their profits annually. If they have a little bit better year, they pay a little bit more. If they have a little— if their earnings aren't quite as well, they will pay out less. And even, you know, they're not afraid to cut the dividend somewhat, but they don't view it as a cut. They just view it as your sharing in the profits of the business. So how do you deal with that?” 

Well, I think the answer is, keep in mind, our podcast is trying to hone in on how to execute a specific strategy. But overall, I can't stress this enough, pure dividend growth and the consistency of it is not the only thing we do, it's just the core of how we invest money. But some of these foreign stocks can definitely potentially have a place in your portfolio because the yields tend to be higher and over time, they can get you to the same place. It's just not quite as predictable, and part of our big pitch is focusing on predictability. So, the higher yield of foreign equity can potentially compensate you and offset the fact that it's not going to be as predictable in the next year. There might even be a lower dividend, but if you're earning an extra percent a year, in the long run, that can really help bail you out, and it's back to the whole compounding cash flow. So, if you find a good, well-managed company, but the dividend just isn't quite as predictable, still doesn't mean that you shouldn't own it.

So to conclude this episode, I'd like to give you just two quick thoughts. One, if you're really going to worry about performance, and especially shorter-term performance, you have to remember that if you change the dates, it can really change the story. You have to keep it in perspective. Be really careful when you're looking at specific dates as far as what a headline may be trying to tell you when in fact, it's not the real story. The real story is longer term, which leads to point two, and that is, pay attention to your discipline and your strategy. Don't get seduced into what short-term performance may or may not be doing. Because the problem is, a lot of times, it's just pure investor psychology jumping from one thing to the next. In order to compound wealth, you have to have a compounding income stream, which means you have to own it for a while. The longer you own it, the better off you are.

If you enjoyed today's podcast, please leave us a review and subscribe. If you would like more information regarding dividend growth or our investment strategy, please visit growmydollar.com. There you will find previous episodes and also our monthly newsletter. If you have any questions or anything to add to today's episode, please email ethan@growmydollar.com.

Past performance does not guarantee future results. Every investor should consider whether an investment strategy is right for them, and all the risk involved. Stocks, including dividend stocks, are volatile and can lose money. Denewiler Capital Management may or may not have positions in the publicly traded companies mentioned herein.