Designing a Dividend Portfolio

by Brad Ferris on November 14, 2013

Over the years I’ve continued to take on the occasional client in my consulting business; helping a few small businesses, individual investors and the odd institutional investor.

Over the past 16 months I’ve been working with a couple whose intentions have been to build their own dividend growth portfolio for retirement after being with various financial advisors for years.

Portfolio Construction is one of the most daunting tasks an individual investor encounters when they begin to accumulate capital and plan to manage their wealth on their own. Investors commonly look to copy successful investors (such as Warren Buffett), subscribe to various investing products promising success or look for ideas in the media (talking heads) in print or television.

I think all investors have asked themselves the following questions…

What stocks do I buy?
When do I sell?
When do I buy?
Which stocks are good stocks?
Can I avoid losing money?
Where do I start?…

The last question, Where Do I Start?, is very important because everyone, even myself, struggled with this when we started. It is the biggest reason we hesitate to invest successfully and the most significant psychological barrier to successful investing.

When I started investing over 13 years ago I was fortunate to know what good stocks were (took me years to find great stocks) and I had the confidence of when I should buy them. When I came to the question of, “How do I organize my portfolio?”, I remember feeling very overwhelmed and my confidence suffered.

Arrogance and over confidence are hallmark traits of investors who fail over the long-term, but having enough confidence to execute a strategy is difficult to develop if you’ve never invested successfully before or understand how to invest successfully.

During the process of helping my clients develop their own portfolio I’ve made each reader a list of five (5) key items I taught them to focus in on.

These five key items will help even you develop, organize, review and continuously evaluate a dividend growth portfolio properly without getting distracted by other factors.

High Quality Stocks

This is a no brainer, but almost all investors neglect first creating a list of high quality dividend stocks as potential investments to evaluate for investments and how to evaluate them properly. When readers join my Stock Analysis Mailing List there is an E-Book I’ve written on how to perform basic and advanced stock analysis.

Why form a list?

Think of a list of high quality dividend stocks as your shopping list. You need to know what items you need to buy, what items you want to buy and what items you should avoid.

This list can be short (10-15 stocks) or long (25-50 stocks). The list of dividend stocks should include companies you know and understand, who raise their dividends regularly, have positive cashflows, stable business models (preferably with competitive advantages) and global operations (if possible).

Dividend Diversification

Avoid building a portfolio of only high yielding dividend stocks. Your portfolio should be about dividend growth not simply currently high paying dividend stocks. Remember to think about the long-term; some companies consistently raise their dividends 3-8% per year and others raise them 12-30% per year. You want a balance of high yielding stocks that raise their dividends at conservative rates and low yielding stocks that raise their dividends at aggressive rates. This strategy diversifies your dividend growth and helps to compound your dividends and cashflow. When you reinvest your dividends back into the portfolio you will receive more dividends the next year!

Sector Diversification

This is again something all investors should use whether investing in mutual funds, stocks or alternative investments. Never place all your eggs in one basket. When you create your list of high quality dividend paying stocks be sure to include companies from all sectors; Financials, Consumer Staples & Discretionary, Energy, Industrials, Telecommunications, Real Estate, Healthcare, Precious Metals, Technology, Utilities, etc.

Some sectors are more cyclical than others and diversifying your portfolio will help you achieve positive returns regardless of where in the business cycle a specific sector or the economy is at any given time.

Geographic Diversification

Just as sector diversification is important geographic diversification is essential. A dividend portfolio should have a balance of investments with exposure to all major economies. A Canadian investor will want equal or proportional exposure to Canada, USA, Europe, Latin America, Asia and other emerging economies (BRIC). There are implications related to taxation that an investor should be aware of along with different currencies (potentially), but avoiding geographic diversification of dividends is a vital mistake for an investor hoping to grow their dividends long-term. There are a host of global companies that consistently raise their dividends that a novice investor might avoid because they’re simply not aware they exist.

Relatively Low Beta

The beta of a portfolio (correlation to the overall market) is a very important tool when you are first constructing a dividend growth portfolio. An investor needs to learn to avoid using emotions when investing; no one is perfect from the start. Constructing a portfolio with a beta below 1.0 (the market) will help you avoid making emotional decisions based on how your portfolio moves when the market goes up and down. Dividend stocks generally have a lower beta to begin with which helps this process, but look carefully at what sector they operate in to understand why they may be more sensitive or volatile.

Conclusion

Remember that as a newer equity and dividend stock investor you will be prone to switching from strategy to strategy rather than staying the course with a sound investment design. If you’ve chosen a group of high quality stocks, have purchased them at appropriate prices and have designed your portfolio properly there is no reason to stress over short term movements in the markets.

{ 3 comments… read them below or add one }

1 Marc November 15, 2013 at 10:45 am

How about an interactive spreadsheet?

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2 Brad Ferris November 15, 2013 at 11:03 am

I have one of those spreadsheets Marc in excel that downloads data directly into the program to track information. The problem with posting something like that is each reader would need specific plugins to make it work.

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3 matt November 19, 2013 at 5:09 pm

How about updating your portfolio holdings? please/thanks

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