Tuesday, January 3, 2012

Dividend Machines 2012

2012 Dividend Project
            Thank you for reading this blog.  This is an introduction to my 2012 Dividend Project.  I hope that, like me, your investment income has benefited from the 2011 Dividend Project.

Since I am an investor who depends on investment income, in 2012 I will use dividends as a major source of my income.   In addition to dividends, I will continue to use covered calls to boost income.  If bond yields increase to the point that they are competitive with dividends, I will buy some bonds.  I do not write on real estate income.

            In this blog, I concentrate on companies whose dividend income is so reliable that I call them Dividend Machines.  All these companies share four criteria. These criteria are easy to find in free financial sites.   For the ordinary investor to manage the income portion of their portfolios, easy to find data is important.  You save time and you tend to employ a disciplined strategy.  Both are important parts of project execution.

            The four criteria a company must possess to be considered a Dividend Machine in 2012 are described below.  I will prominently post these criteria on my website so you may refer to them at any time.  Refer to this post to find out why and how to use these criteria.

(1)    Dividend Yield:

I try to beat the yield on a 10 year treasury.  If I could get a seven percent yield on a ten year government backed bond, I would buy that income because if I reinvest that income in new bonds that pay seven percent or better, I can double my money in about 10 years.

The current 21 primary dealer banks (those that can deal directly with the treasury) forecast yields for the ten year bond to trade between 1.5% and 2.4% in 2012.  Using this as a guide, my minimal dividend yield criteria will stay at 3%.  

In 2012, each company will have to pay a 3 % dividend yield at the price I profile it for the company to qualify as a Dividend Machine.

(2)    Yield Increase:

Inflation, which significantly influences our cost of living, is measured in many ways and you do not need to know any of them to know that 20 years ago it cost less to live than it does today. Therefore, I know I must create a stream of income that increases.   Moreover, if a company has increased the dividend for at least five years, that company has made it through the 2008 crisis.   I expect these Dividend Machines to continue to pay me in future years in spite of the inevitable market fluctuations and potential disasters.

In 2012 each company I profile as a Dividend Machine will have increased the dividend every year for at least five years.

(3)    Earnings per Share (EPS)

For a company to be able to increase its dividend in a predictable manner, it has to produce more earnings than it pays out in dividends.  A company’s earnings per share are reported on most financial websites but these sites use different formulas.   Some sites calculate EPS using the most recent reported earnings.  Others calculate EPS on expected earnings. 

 I will use historical EPS also called trailing EPS.    For a company to be considered a Dividend Machine the sum total of their past four quarters of earnings has to exceed  their annualized current dividend or 4 times the most recent declared quarterly dividend.   I have changed which websites I use for data so many times but here are a few that I like; my broker Charles Schwab, MSN money sometimes called Money Central, and Dividend Investor.com.  I like to track portfolios with Yahoo Finance. 

In 2012 every company’s EPS for the previous four quarters will have to be greater than their current annualized dividend.

(4)    Debt to Equity Ratio (D/E)

Risk is important and while many factors can negatively affect even a Dividend Machine, the single biggest fear we have is that our company will go out of business and our interest in it will not only not produce income, we may also lose our principal.

I believe that the single easiest measure for the ordinary investor to use to determine if a company will go out of business is the amount of debt they have.   Clearly, other risk factors can cause even a debt free company to go out of business, think of the proverbial buggy whip manufacturer, but being debt free or having only the amount of debt that a similar company needs to do business is an important measure.

2012 Dividend Machines will have a D/E ratio of 1 or less or no greater than their industry’s average.

            The website/blog  will have a few changes this year including a change as to when; during the week I profile a Dividend Machine.  This year I will post my weekly Dividend Machine some time during the week not necessarily every Monday.     It will be interesting to see if last year’s approach in which I stuck to profiling a Dividend Machine every Monday performs any better than this year’s approach of profiling a Dividend Machine sometime during the week. 

            I believe, as you know, that selling covered calls on dividend producing stocks is an excellent source of investment income.   As a matter of fact, ask any person who has passed the Series 7 registered representative test (license to be a stock broker) and they will tell you that the question of using covered calls as a retirement income strategy is asked often and the answer is yes.   This year I will concentrate even more on selling covered calls on the Dividend Machine companies I have profiled.  I do like to sell covered calls on companies that pay income but do not pass the high hurdle of being a Dividend Machine; I may publish a second blog with posts related to those transactions.

            Some of last year’s Dividend Machines cannot be included in 2012; some due to fundamental changes and some because their stock price has increased so much that the yield is less than the three percent minimum.   This year I will profile forty eight companies, one per week, leaving the end of the year for analysis.

            Here’s to 2012.    Here's to being here, (copyright Benedict) and thank you to Alfred Ferol for your sage advice.

Very Truly Yours,