Situation: Every project needs a Central Thought or Point of Main Interest. Forty years of investing have taught me to take personal responsibility for controlling my costs, i.e., inflation, taxes, research, and commissions. At first, those seemed to be largely unavoidable. So, I didn't keep track of them. Finally, I realized I was losing money after subtracting what accountants call CGS (Cost of Goods Sold) from my gains, whether paper or actual. That brought me to DIY (Do It Yourself), using DRIPs for stock investing and treasurydirect for bond investing. I could cut out the middleman. There is a fancy name for doing that: disintermediation. My first small step was to dollar-average Savings Bond purchases through automatic withdrawals from my salary, starting in 1992. Two years later, I set up a DRIP for Exxon Mobil (XOM) and soon moved on DRIPs for McDonald's (MCD) and Procter & Gamble (PG). All 4 of those investments have beat inflation and implied taxes over the past two decades, and all but MCD remain free of transaction costs.
Let's break down the benefits of disintermediation. First, you regulate safety. Second, you decide how much to diversify your holdings. Third, you decide whether to emphasize income or growth. Fourth, you decide when to sell. We have suggestions for how you might manage those control levers:
#1 Safety: Start with 40% of your savings in 10-yr Treasury Notes (or Savings Bonds), 20% in hedge stocks (see Week 117), and 40% in other stocks chosen from our universe of 51 (see Week 122).
#2 Diversification: Bonds are priced around the world on the basis of their risk of default compared to the US 10-yr Treasury Note. That makes T-Notes the most obvious hedge for stocks, given that T-Note prices go up in any recession whereas stock prices fall. With stocks, you need to have a portfolio where all 10 S&P industries are represented. You'll need at least 12 different DRIPs; 4 of those need to represent the 4 defensive S&P industries (healthcare, consumer staples, utilities, and telecommunication services) and 4 need to be hedge stocks (see Week 117). For this week’s Table, we’ve picked the highest ranked stock in terms of long-term Finance Value (Column E in the Table) for each of the 10 S&P industries. That leaves non-defensive industries underrepresented so we’ve added the two highest capitalization stocks that remain: Nike (NKE) and Chevron (CVX).
#3 Income vs. Growth: A growing dividend is money in the bank, but a growing stock price is fungible. So look to own stock in growth companies that pay a growing dividend. Many growth companies, i.e., those in the 6 non-defensive S&P industries (energy, materials, information technology, consumer discretionary, industrials and financials), provide substantial and growing dividends even if their fortunes ebb during recessions.
#4 When to sell: If you're dollar-averaging into a DRIP, never sell as long as the dividend is being increased every year. When you retire, start spending (instead of reinvesting) that dividend.
Results of this plan: If you go to the Table and add two parts 10-yr T-Note returns to 3 parts 10-yr returns for our 12-stock list, then divide by 5, you’ll see that the total return/yr is approximately 35% better than the total return/yr for the S&P 500 Index (VFINX) but the risk measures (columns D and L) indicate greater safety.
Bottom Line: What’s not to like about point-and-click investing? Well, your choices have to be well-researched because selling a DRIP comes with tax headaches. You’ll also need to have nerves of steel in order to maintain fixed regular allocations into each DRIP during a bear market. Even though you’re getting more shares for each dollar allocated, you’ll really wish you weren’t shovelling more money into a falling market. I had to learn that lesson the hard way during the dot.com recession but shovelled on during the Great Recession.
Risk Rating: 3
Full Disclosure: I make monthly additions to DRIPs in WMT, NKE, ABT, and IBM. I also have stock in MCD, CVX, MON, and OXY.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
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