The Dividend Growth Model

One of the ways that you can screen for a good dividend stock pick is to make use of the dividend growth model. You can calculate what the value of the stock should be, based on its dividend, to provide you with the return that you need to make it worth the purchase.

Calculating Stock Valuation Based on Dividend Growth

This stock valuation model takes a look at divided growth and uses it to help you decide whether or not the investment is a good buy. The formula use is based on three factors:

  1. Current dividend (per-share – full year dividend pay out)
  2. Growth of the dividend (per year – the five year dividend growth can give you a good idea)
  3. Required rate of return: What you “need” the investment to return in order for you to think it worth it to purchase the stock.

Once you know that information, you can plug it into the following formula:

(current dividend x (1 + dividend growth)) / (required return – dividend growth)

Dividend Stocks Online has handy lists that show you current dividend yield, and other information about yield growth. So, for our example, we’ll use Verizon (VZ). According to The Motley Fool, VZ is on track for a full year pay out of $1.95 per share. DSO puts the five-year annual dividend growth at 3.51%. Now, let’s say that I would need 10% for a required rate of return. As of Friday, May 27, 2011, VZ has closed at $36.67.

It’s time to plug in some numbers, and hope that I can still do junior high school math with a calculator:

  1. Current dividend = 1.95
  2. Growth of dividend = 0.0351
  3. Required rate of return = 0.1

(1.95 + (1 + 0.0351))/(0.1 – 0.0351) = 1.9851/0.0649 = $30.59

Basically, this model means that this stock should be at $30.59 in order for me to get a 10% annual return, based on its dividend growth.  It is also worth noting that this model could also be interpreted as an indication that VZ is currently overvalued, since it seems to indicate that VZ has a price higher than its valuation.

Problems with the Dividend Growth Model

There are weaknesses in almost any model, and this one is no different. Dividends do not always remain the same; they can be cut. Dividend growth is not going to remain constant, and this model assumes constant growth in perpetuity. In addition to looking at the dividend growth model of stock valuation, consider a few other factors when making a decision:

  • History of regularly dividend increases (dividend aristocrats are those that have raised dividends every year for 25 years)
  • Business model of the company
  • A dividend adequately covered by earnings

There is no way to completely predict what any investment will do. However, you can do a little research, and choose stocks that show good promise going forward.

Dividend Increases: LOW, VIAb.N, SDRL.N, CATO.N

It’s been a busy week for dividend stocks, with dividend increases coming from a number of companies. Lowe’s, Viacom, Seadrill and Cato Corp. all announced dividend increases. Additionally, the Royal Bank of Canada and Tate & Lyle increased their dividends. Even though the stock market has had a rough go through the month of May, there are individual companies that feel as though they have some positive news coming ahead.

Lowes gave its dividend a boost of 27%. The company’s CEO, Robert Niblock also announced that Lowes will become a home improvement company, providing support and inspiration for home improvement projects in addition to being a retailer. Even though Lowes saw some difficulties through the recession, it still continued raising its dividend — as it has every year since 2003.

Viacom also announced a dividend increase to 25 cents a share. That’s a 67% increase. However, a lot of that dividend increase will benefit chairman Sumner Redstone, who owns 80% of the voting shares. He stands to gain about $41 million from the stock increase.

Seadrill decided to boost its dividend to 75 cents a share in the next four quarters. The move comes as the company gets ready to fulfill increased demand for offshore drilling. With oil expected to rise in demand, and with efforts to increase the supply underway, offshore drilling is gaining in popularity. Seadrill claims to make high quality rigs — which are in more demand since recent disasters like the Deepwater Horizon explosion.

Cato Corp is planning to invest $40 million in a huge new distribution center, but that hasn’t stopped the company from raising its dividend. Cato has improved a 24% increase to 92 cents a share. The company’s chief executive, John Cato touted his company’s practice of paying dividends and increasing them in response to better earnings.

Some were surprised by the increase in dividends from the Royal Bank of Canada, since the company missed earnings expectations. However, the bank didn’t miss them by much, and other banks have been raising dividends. Tate & Lyle, the company behind Slenda, also announced a dividend increase after a positive earnings report.

Roundup: Better Investing

There are a number of ways to become a better investor. It can help to read a little bit, and get ideas from others. Some investing blogs provide a wealth of helpful ideas on becoming a better investor. Here are some hints from around the blogosphere:

  1. Investment Advice From an Unusual Source: When looking for solid investment advice, you have to be willing to keep your eyes open. Dividend Partisan offers a look at how you can learn from even the unlikeliest of sources. The key is to always be willing to learn.
  2. Why Do We Think We Are So Good A Investors?: Before you can be successful, you need to honestly evaluate your investment ability. The Dividend Guy looks at the emotions behind how we perceive ourselves as investors.
  3. Step 6: Start Small: As you begin investing, you might not want to take on more than you can handle. Indeed, the Dividend Monk encourages you to start small. This is a great article and part of a series on building a successful dividend portfolio.
  4. How to buy your first index trackers: Ready to get started with index tracking? Monevator provides you with a helpful guide. After you read this post, you will be ready to get start; it’s even a good refresher for the seasoned investor.
  5. Investing For Income: A basic look at how you can invest for income. Buy Like Buffett breaks it down and gives you an overview of your options for building an income portfolio.
  6. Valuation-Informed Indexing #43: The Most Important Number in Stock Investing: As you figure out which numbers to pay attention to as you invest, it’s important to keep a few basics in mind. ValueWalk takes a look at long-term market timing. It’s an interesting concept that can help you over the long haul.
  7. Vanguard Wellington: Is it a Good Fund?: Using an example from real life, Oblivious Investor illustrates how to evaluate a fund. This is a great resource that can help you evaluate future purchases.

IPOs Big News This Week: LNKD, GLEN.L

The biggest news this week in the investing world is the massive success of the LinkedIn (LNKD) IPO. The initial public offering was a huge success, and LNKD is doing well today, even though the stock market in general is struggling. In addition to the LNKD IPO yesterday, commodities giant Glencore (GLEN.L) made its public debut in London. This IPO turned out to be rather successful — at least for one day. However, GLEN.L found itself mostly overshadowed by LNKD.

More IPOs are expected to be coming. Prada has received approval for an IPO in Hong Kong, and that is generating some buzz. On top of that, the huge success of the LinkedIn IPO has everyone wondering when other social media giants will go public. There is interest in seeing whether Facebook, Zynga (of Farmville fame), Groupon and Twitter will go public. However, none of those tech companies appear to be interested in going public anytime soon. Enthusiasm for them, though, is growing.

Private Exchanges

If you are interested in jumping in ahead of an IPO, there is an opportunity if you get on private exchanges. These serve as a way for you to get shares from someone in the company. That way, when the IPO happens, you already have bought shares — at a lower price. The huge success of the LNKD offering has many looking at the private exchanges, since many of those who bought LNKD ahead of the IPO more than doubled their return (on paper, at least).

However, those folks can’t just sell their shares. There are usually waiting periods imposed on such transactions. Long term, LNKD (and any other company) has to prove itself before the early buyers can actually cash in on their good fortune. It will be interesting to see what sorts of dividend news ends up coming out of LNKD, but for now, it might be a bit early to get excited about buying the stock for you income portfolio. After all, there are other dividend stocks that are much cheaper.

Roundup: Investment Picks

Sometimes, it’s nice to know what others are choosing in terms of investments. Many great investment bloggers have some ideas of what’s coming. Here are a few of their ideas about what might make a good investment, and some of the issues surrounding popular investments:

  1. 5 Tech Titans Suitable for Every Income Investors Portfolio: The Dividend Pig offers a look at a few tech titans that can help you income portfolio. As you build your income portfolio, consider the options and think about adding these tech giants.
  2. Top 20 Dividend Stocks – May 2011 Edition: The Passive Income Earner lists the top 20 dividend stocks. Arranged by technical screening and by yield, you can get a good look at some great investing ideas.
  3. It’s Time To Buy Hewlett Packard: Buy Like Buffett thinks that now is the time to buy HP. An analysis of quarterly results and other factors is presented. Read the post, and see if you agree.
  4. Novartis (NVS) Dividend Stock Analysis: Dividend Monk takes a look at Novartis. Do you agree that it is an attractive investment. Read through the analysis, and see if you think you want to add NVS to your portfolio.
  5. Weekend reading: Grab those index-linked certificates: This great roundup from Monevator offers some investing ideas in the form of NS&I certificates. They might be just the thing you need.
  6. Will Oil & Gas Stocks Rise Again?: Beating The Index takes a look at oil and gas stocks. Before you buy energy stocks, it’s a good idea to consider what you think will happen next. This analysis looks at the market, energy and what could be around the corner.
  7. The College Education Bubble: The say that education is an investment. However, Expected Returns takes a look at this investment, and wonders about the education bubble. What happens when it bursts?

Building Your Income Portfolio: Showing Patience

As I’ve started putting together an income portfolio that includes dividend stocks, I sometimes find myself feeling discouraged about the income that I receive. This frustration was further underscored when someone I know said that dividend stocks were a waste of time. “Getting 2 cents a quarter? What kind of income is that?” she scoffed. (Incidentally, she and her husband both plan to work for 30 more years in jobs they don’t particularly enjoy, relying on 401ks. This helped me get beyond her sneering remark.)

However, as I’ve kept with it, I’m becoming less frustrated. Sure, if you buy a few shares of a dividend stock, and then let it just sit there, you will never end up with anything approaching a stable income. A successful income portfolio often requires time to build up. Many of us don’t have the capital necessary to invest in dividend stocks and then enjoy a decent income.

Patience as Your Income Portfolio Grows

If you want success in your income investing efforts, you have to show patience. A portfolio needs to be built over time. Choose the investments you want in your portfolio, and then buy shares regularly in order to build it up. The more shares you have of a company, the greater your dividend will be when it is paid. Looking at statements, and watch my dividend rise, has been a great motivator.

Of course, you do need a plan. Right now, my income portfolio is growing rather slowly. This is because we have other obligations right now. However, it’s not as important to us to see big leaps and bounds in our dividend income. This is because we have a longer timeframe. I have my own home business, and my husband just finished his Ph.D. Up until this point, we have been expecting that our built up portfolio won’t need to provide substantial income for at least 15 more years. Now that my husband is done, though, we can start thinking about increasing what we put in, allowing us to speed up our timetable if we wish.

If you want income from your dividend stocks more immediately, you will have to increase what you put in now. Sit down and do the math. Decide if you can put more into building up your income portfolio now so that in five to 10 years you will be able to pay certain expenses with your dividend income.

Without a realistic plan, and a little patience, it can be tempting to just give up on your efforts to build an income portfolio. However, if you focus on the essentials, and stick with a good plan, you might be surprised at what you can accomplish.

Intel (INTC) Raises Dividend for Second Time in Six months

For the second time in six months, Intel (INTC) has raised its dividend. Indeed, the yield is almost 3.5% after this latest increase to 21 cents a share. Intel is becoming quite the dividend player in the tech sector. The news resulted in gains for INTC in the midst of a tech sell-off yesterday. Yahoo! led the declines, and continues to lead the tech sector today. However, INTC is largely unaffected as the company basks in the results of its dividend increase.

Other Tech Sector Dividends

There are other dividends in the tech sector, of course. Indeed, the latest move by Intel serves merely to edge out some of the other companies with dividend yields above 3%. Maxim Integrated Products Inc. (MXIM), Intersil Corporation (ISIL), and Microchip Technology Inc. (MCHP) all have yields of at least 3%. Intel’s move simply increases its dividend, making it more competitive. But could Intel do better saving some of its cash and then branching out into something other than chip-making?

Don’t expect much movement from Microsoft (MSFT) on its dividend, though; while other tech sector companies might have enough cash to increase a dividend yield, MSFT is unlikely to have anything extra anytime soon. Its acquisition this week of Skype for $8.5 billion is likely to leave MSFT a little cash poor for some time.

Another interesting tech sector dividend is Digital Realty Trust Inc. (DLR). This is actually a REIT that invests in office space meant for technology companies. DLR offers a dividend with a yield that is pretty close 4.45%. Combining real estate and technology seems to work for this tech sector company.

Dividend Restoration

Some companies are working to restore dividends that were put on hold for a while. Citi (CN) has reinstated its quarterly dividend of one cent per share. Citi joins other financial services companies in seeing profits rise. Ford (F) is working to restore its dividend when it receives an investment grade rating. When companies restore a dividend, it can mean that it feels it is back on the right track.

Roundup: Strategy Session

Every now and then, you need a strategy session as you assess your portfolio. The good news is that there are plenty of great bloggers out there that can offer some insights into strategies and how to use different dividend stocks. Have a look at what’s been going on in the blogosphere:

  1. ETF risk – a personal action plan: If you are interested in ETFs, it is a good idea to double check your strategy. There remains risk, and you need to be aware of it. The Accumulator at Monevator offers you ideas for a personal action plan to help limit your risk.
  2. Assessing Your Risk Tolerance: Need and Ability: As you put together your portfolio, you need to be aware of your risk tolerance. Mike, at Oblivious Investor, provides an overview of these two aspects of risk tolerance. A great primer.
  3. Book Review: The Ivy Portfolio: If you are looking for a great read, you might consider this book, reviewed by The Aleph Blog. The book offers a look at how you can invest like endowments do in order to limit your exposure to bear markets.
  4. RSI — Overbought, Oversold, or Overplayed?: Sometimes you have to ask yourself some tough questions about a particular investment. Kenny at the Market Club Trader’s Blog allows a guest post to analyze RSI. The illustration can be applied to other investments.
  5. Star of the Day – Rovi (ROVI): Get an idea of why ROVI might be a great addition to your portfolio. TraderMark at Fund My Mutual Fund goes through some of the pros and cons of this stock.
  6. Third Point Adds To Xerium Technologies (XRM) Position: Do you want to learn from fund managers? Market Folly offers a look at one of the latest additions to Dan Loeb’s fund. A look at the move, and resources to help you manage your own fund.
  7. How Microsoft Caused the DotCom Bubble and why their Skype ‘Hail Mary’ is irrelevant: Everyone seems to be talking about Microsoft and Skype. Barry Ritholtz at The Big Picture takes us through the deal — and why it may not matter.

3 Times to Consider Selling a Dividend Stock

Many of us invest in dividend stocks for the long haul. We expect that we will hang on to the stock, either enjoying regular income from the payouts, or using DRIPs to help build up nest eggs for the future. Few of us think about selling our dividend stocks. However, at times, it is prudent to consider selling your dividend stocks. Here are 3 times when you might consider selling a dividend stock:

1. The Company Cuts Its Dividend – Or Eliminates It

One of the most obvious reasons to sell a dividend stock is if the payout is cut, or eliminated. After all, the point of owning a dividend stock is to receive the regular payouts. When a company cuts its dividend, it means things are going poorly. When a company gets rid of a dividend, it could mean something even direr, and be an indication that you should sell – and get what you can.

Of course, in some cases, the cut might be relatively small, and in response to the economic situation. If a dividend is cut in such circumstances, it might not be a bad thing to see if dividends recover as the economy does. However, if other companies in the sector are raising dividends again, and your stock is left in the dust, perhaps it’s more than just the recession holding the company back.

Also, watch out if the annual yield drops below 1%. That could be a warning sign that it’s time to sell.

2. Your Position is in the Stock is Down Significantly

While many dividend investors don’t worry much about the fluctuations in the stock when they are small, matters can become worrisome if a bigger drop is seen. Day to day, and even month to month, the stock market can be quite volatile. However, if you see a huge drop – perhaps by half or more – it might be time to move on. Even though you invest in dividend stocks for the payouts, you also have to think of your initial capital and your investment. If you are taking a beating that will take you too long to recover from, you might need to sell. Besides, with that kind of drop, a dividend cut probably isn’t too far behind.

3. The Company Changes Management or Ownership

This isn’t always a bad thing. But if it appears that there will be changes made in management or ownership, and you are unsure about the results, it might be time to sell. You might not have a high opinion of the company doing the buying, and that might be an indication that it is time to sell. And, of course, if the sale results in the company going private, dividends are likely to be non-existent anyway. Carefully consider your options in such a situation, and decide what would be prudent for you.

Revenue Rolls in for Credit Card Companies: V, MA, DFS, AXP

Earlier this week, MasterCard and Visa shared their quarter 1 earnings for 2011. The results, even with the rules from 2009’s CARD Act in place, are impressive. MaterCard shared a strong earnings report, and Visa beat expectations from analysts. On top of that, Visa announced a buyback of up to $1 billion. Earlier, American Express and Discover had both reported earnings earlier.

Visa’s announcement didn’t come with a dividend increase announcement, but Discover, earlier in the year, announced a dividend increase from two cents to six cents. Visa’s dividend is sitting at right around .76%. MasterCard’s dividend is even lower, with .22% yield. Indeed, if you are going to invest in a credit card company for dividends, American Express might be the way to go.

Earlier this week, at the annual shareholders’ meeting, AXP announced that it will resume its share repurchases. Additionally, the dividend remains at 18 cents per share. The company claims that it plans to return 50% of its generated capital to its shareholders through dividends and stock repurchases. And, even though American Express had some profit difficulties during the recession, it didn’t cut its dividend payouts as some of the other credit card companies did.

In addition to credit card companies, other financial services companies have been increasing their dividends. A number of banks announced dividend increases earlier — with the exception of Bank of America, which continues to struggle. Policymakers aren’t quite ready to let BofA increase its dividend.

Share buybacks are becoming more popular amongst U.S companies, following positive earnings news for the first quarter of 2011. According to the Wall Street Journal, U.S. companies have spent beyond $90 billion to buy back shares during the first quarter. That’s fairly significant. It indicates that companies are feeling a little more confident right now, willing to share more of their rising profits with their shareholders. Additionally, dividend increases have been in the news since earnings in quarter one came back so positive.

Even with these dividend increases and buy backs, though, companies aren’t at the same level of sharing as we saw prior to the recession.