Week 292 - Want To Gamble? Start With High-risk Growth Stocks That Are Dividend Achievers With Clean Balance Sheets

Situation: Most of us are of two minds when we invest. Sometimes we might speculate with “pin money” but mostly we make prudent decisions. Seasoned investors know when they’ve crossed that border (“here be dragons”). In the 19th century, the designation of “capitalist” was a synonym for “gambler”, and that idea still has a following. 

Here we need to be more specific, since it is clearly imprudent to gamble with retirement savings. That is why we start most of our blogs by focusing on Dividend Achievers, companies that have increased their dividend annually for at least the past 10 yrs. Those “shareholder friendly” companies are constrained by having to always pay a good and growing dividend. (Any company run by someone as astute as Warren Buffett wouldn’t want to liquidate itself a little at a time.) But the shareholder is better served by having her capital returned piecemeal, rather than in a lump sum 10 yrs later when she sells her stock. For an explanation of why it is better to record 20-30% of your gains early on, read up on Net Present Value.

So, our definition of gambling is to invest in a company whose stock shows greater volatility than the S&P 500 Index over at least 16 yrs. Those stocks are denoted by a red highlight in Column M of our tables.

Mission: Develop a spreadsheet of growth companies that are high-quality Dividend Achievers with clean Balance Sheets, yet their stock has been more volatile than the S&P 500 Index over the past 16 yrs, as determined by a “least squares” distribution of their weekly price points (see Table).

Execution: Column M denotes the statistically predicted loss that would occur if prices fall 2 Standard Deviations below trendline. If the predicted loss for a particular company’s stock is more than the predicted loss for the S&P 500 Index (currently 30%), we highlight that number in red. Most of the Dividend Achievers from the 4 S&P Defensive Industries are not highlighted in red, whereas, most Dividend Achievers in the 6 S&P Growth Industries are, indicating that a greater loss is likely in the next Bear Market. Those industries are: Financial Services, Information Technology, Consumer Discretionary, Industrials, Basic Materials, and Energy.

Bottom Line: You don’t want to “get in over your head” when investing for retirement. So, you need a clear marker of when that is likely to happen. But if you’re like most investors, you want to gamble with a small fraction of your investments, i.e., those outside your retirement plan. Why? Because greater volatility is the source of high returns as well as deep losses. So, you don’t want to “buy and hold” these stocks. Instead, you’ll want to close out your position at some point. When would that be? There are no rules. You just have to decide when the market in that stock is becoming a “crowded trade." Then you should sell, or make a trade that offsets your risk. If you conclude that the company will prevail over competitors in the long run, you can offset the risk of a 50% collapse in the stock’s price by dollar-cost averaging, which is to invest a fixed amount each month online regardless of market fluctuations. That way, you get twice as many shares per dollar invested whenever the price falls by 50%. I learned that lesson the hard way, after I stopped dollar-averaging $200/mo into McDonald’s stock (MCD) in 2003 when the price fell below $10/sh.

Risk Rating: 8 (where 10-Yr Treasury Notes = 1, S&P 500 Index = 5, and gold bullion = 10)

Full Disclosure: I dollar-average into MSFT and hold shares in ROST, TJX, and CAT.

NOTE: Metrics are current for the Sunday of publication. Red highlights denote underperformance vs. VBINX at Line 20 in the Table. Purple highlights denote Balance Sheet issues and shortfalls. Net Present Value (NPV) inputs are described and justified in the Appendix to Week 256: Briefly, Discount Rate = 9%, Holding Period = 10 years, Initial Cost = average stock price over the past 50 days (corrected for transaction costs of 2.5% when buying ~$5000 worth of shares). Dividend Growth Rate is the 3-Yr CAGR found at Column H. Price Growth Rate is the 10-Yr CAGR found at Column K (http://invest.kleinnet.com/bmw1/). Price Return (from selling all shares in the 10th year) is corrected for transaction costs of 2.5%. The Discount Rate of 9% approximates Total Returns/yr from a stock index of similar risk to owning shares in a small number of large-cap stocks, where risk due to “selection bias” is paramount. That stock index is the S&P MidCap 400 Index at Line 30 in the Table. The ETF for that index is MDY at Line 19.

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