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What is Dividend Growth Investing?

Dividend growth (DG) investing is a strategy for profiting in the stock market. It’s a business model for running your personal investing. In constructing and managing your portfolio, DG investing focuses primarily on reliably getting ever-increasing income from your stocks rather than on stock prices and capital gains.

(Source: Author diagram)

(Source: Author diagram)

The basic DG approach is simple: Accumulate excellent dividend-growth stocks and reinvest the dividends as they come in.

A “dividend-growth stock” is the stock of a company that has a strong record of having increased its dividend – every year without fail – for a meaningful number of years. For me, that’s at least five years in a row. Some investors require 10.

Here’s what a few of them look like. What’s plotted below is the growth in dividends paid out per year over the past 10 years for several well-known DG companies.

(Source: YCharts)

(Source: YCharts)

All of the lines look the same: One year of dividends at a certain rate, an annual bump up, another year, another bump, and so on. The only thing that differs is the rate at which each company’s dividend has been increasing. They all increase them annually.

By owning stocks like these, the idea is to build, over time, a rolling snowball of reliable income that keeps getting bigger. When you retire, you can stop reinvesting the dividends and simply use them as income. The dividend income replaces some or all of your paycheck.

A great source for finding all DG stocks in one place is the Dividend Champions document. Created by the late David Fish and maintained nowadays by Justin Law, the “CCC” (standing for Dividend Champions, Contenders, and Challengers) is a free spreadsheet, updated monthly, that not only lists all of the DG stocks traded in the US, but also provides a treasure-trove of information about each one.

As of the December CCC update, here are some statistics about DG stocks:

  • Total CCC stocks: 713
    • Champions: 25+ years of increases: 144
    • Contenders: 10-24 years of increases: 362
    • Challengers: 5-9 years of increases: 207
  • GICS sectors represented: All 11 sectors
  • Average yield: 2.7%
  • Average annual dividend growth rate: 11.1% over past 5 years
  • Number of companies exceeding 50 years (aka “Kings”): 44

What Happens When You Stop Accumulating?

After many years of DG investing, you can build quite an income flow from dividends alone. What do I mean by that? Well in my own public Dividend Growth Portfolio, I now receive in dividends each year more than 13% of the amount I invested to start the portfolio in 2008. The total dividends I have received exceed my original investment.

I’ve never added any new money to the original investment, so all of that income growth has come from within the portfolio itself via:

  • Dividend increases by the companies I own
  • Dividend reinvestments
  • Occasional portfolio trades

Over its lifetime, my portfolio’s income has grown much faster than inflation. So its purchasing power has increased not only in nominal terms, but in real terms. The income from my portfolio has increased 10.5% per year (compound annual growth rate), and it will finish this year having done so again. Here’s what that looks like. This is my favorite chart for illustrating DG investing.

(Source: Author graph)

(Source: Author graph)

Why Invest for Income Instead of Capital Gains?

First off, let me state that I am not recommending that anyone be a DG investor with all or even part of their resources. I am simply reporting what I do and how it works.

I believe that DG investing is a rational strategy for accumulating assets that, in retirement, may — without selling — generate income that is sufficient to live on, reliable, and grows faster than inflation. It is a clear-eyed, evidence-based approach to investing.

Many people think that dividend investing is unsuitable for young investors who are decades from retirement. They believe that such investors don’t need income now, they need growth. Despite that, I can tell from comments to my articles and videos that many younger people – in their 40s, 30s, and even 20s – are intrigued by the idea of getting a snowball of income rolling down that hill for use later in life.

And the fact is, dividend-paying stocks grow not only their dividends, but their market values too. In my public portfolio, the total return over its lifetime is +277%. If I had put the same money into SPY – the largest ETF that tracks the S&P 500 – and also reinvested its dividends, its total return would be +287% -- practically the same.

Ned Davis Research has been collecting data on dividend-paying stocks since 1972. They have found that over long terms, companies that grow or initiate dividend payments have outperformed companies with other dividend policies, including stocks that pay no dividends at all – which characterizes many so-called “growth” stocks.

(Source: Hartford Funds, Ned Davis Research)

(Source: Hartford Funds, Ned Davis Research)

When you retire, depending on your total income (from dividends, a pension, Social Security, etc.), you may not have to sell any of your stock shares to have plenty of income. Or you may sell shares only for special reasons, such as a nice vacation each year. That’s the stage I am in now.

Dividend Growth Stocks Are Unique

In his bestseller Outliers: The Story of Success, Malcolm Gladwell explained that success in many fields comes from factors that may be unusual in the population at large, but that are quite common among the outliers themselves. For example, major-league baseball players tend to have excellent eyesight, much better than the general population. That helps them pick up the spin on the ball.

The best dividend growth stocks tend to share certain unique characteristics. In fact, I think of the best DG stocks as truly extraordinary investment opportunities whose achievements fall outside the normal performance of stocks generally.

There are about 22,000 stocks in the Morningstar stock screener’s database. Most of them do not pay a dividend at all; only about 5100, or 23%, pay a dividend. By using dividend payments as a simple screen, we eliminate ¾ of all stocks.

Of those, as we saw earlier, 713 have dividend-growth streaks of 5 years or more. That’s about 3% of the Morningstar database.

The point is that dividend-growth stocks are special creatures. While many of them are well-known companies, such as the ones shown on an earlier chart, I think that many investors fail to appreciate just how special they are as investments. They are strong, dominant companies that pay you some of their returns along the way, in the form of quarterly (or monthly) direct cash payments that grow annually.

That’s a way of investing that has worked for me and provided many a good night’s sleep.

Thanks for reading.

-Dave