Who hasn’t heard or read the statement, past performance is no guarantee of future gains?
Securities regulators make investment professionals disclose this information (verbally or written) to ensure that individuals understand that there are no guarantees when investing. They hope this will prevent investors from chasing performance in funds or with brokers with a period of success.
As a dividend growth investor I want to use historical performance to evaluate the best stocks for my portfolio and continue to evaluate them on a regular basis. My post last week, Allocation of Capital, discussed the importance of allocating capital and the time needed to do so successfully.
At least once a year I take the annual report from each stock in my portfolio and enter specific information into my spreadsheet for that company. The purpose of this is to track, evaluate and anticipate future performance and behaviour of that company. For each sector I evaluate with different criteria. For a railway I track their operating ratio, sales volumes and debt levels. For a bank I will track the growth of various business segments, loan loss ratios, return on shareholders equity and book value growth.
For all the stocks that carry a dividend I specifically monitor their payout ratio, book value growth and dividend growth. Generally speaking a company that can raise its dividend in a predictable manner will be growing at or above the same rate as the growth of their dividend.
An example would be if Company ABC is growing at a 5% rate over 10 years and raises their dividend 4% each year. If Company XYZ is growing at a 5% rate over 10 years and raises their dividend by 15% each year you will want to take notice quickly.
It could be that the business model has changed and the payout ratio is able to withstand increasing returns to investors or simply that the payout ratio was extremely low and the business is now in a more mature phase and can move cash to investors at a greater rate.
My Four Current Dividend All-Stars have a long track record of growing their businesses and consistently and predictably growing their dividends:
HRL – Hormel Foods
15 YR Dividend growth of 13.22%
10 YR Dividend growth of 15.48%
5 YR Dividend growth of 17.93%
SAP – Saputo
14 YR Dividend growth of 13.82%
10 YR Dividend growth of 11.74%
5 YR Dividend growth of 9.61%
MRU – Metro
15 YR Dividend growth of 15.79%
10 YR Dividend growth of 14.97%
5 YR Dividend growth of 16.93%
CNR – Canadian National Railway
15 YR Dividend growth of 17.93%
10 YR Dividend growth of 16.72%
5 YR Dividend growth of 18.27%
Do the above growth rates guarantee that Canadian National Railway can continue to grow their dividend between 15-20% indefinitely?
No. But it does provide a metric with which I can evaluate future performance of the company and make an informed decision about the portion of capital I allocate to the position in my portfolio. If CNR’s operating ratio were to increase to 80%, a new CEO took over and dividend growth slowed considerably I would likely decrease the capital allocated to this position or exit it completely. Alternatively if their operating ratio continues at present levels and the dividend growth slows to 12% with no acquisitions or volume growth I can evaluate that CNR is now moving into a more mature phase of their corporate growth and therefore newer expectations for dividend growth.
Investors reward predictable actions in companies with predictable outcomes. Any income investor can tell you when a company has failed to raise its dividend meaningfully (see many financial stocks 2008-2012). With or without noticing they may have also reduced the capital they had allocated to that stock for that reason. The market routinely will punish a company for not raising their dividend as expected and this is an important trend to watch. A company shouldn’t be raising its dividend without good reason (see company ABC and XYZ above) and this should be a red flag for an investor seeing an increase in a dividend to satisfy the market.
Some companies, such as Russel Metals (RUS), will have a dividend that is almost entirely dependent on the current economic environment of that specific industry. In this situation an investor needs to be more vigilant, aware and allocate the amount of capital to a cyclical stock or more economically sensitive investment.