Too Much Concentration?

[KenBob]

I just finished reading the following article on Seeking Alpha:
http://seekingalpha.com/article/1898291-...-all-wrong

The author (Nelson Smith) makes a statement that dividend growth investors are concentrated too much on a few large cap consumer staple companies.

Overall, I believe he sets up a strawman in describing the number of companies that dividend growth investors have in their portfolios. From what I have seen on the blogs, investors do consider other stocks. So the concentration argument is a stretch for me.

Of course, dividend growth investors, including me, like the stability of these companies and therefore would prefer to own these companies. The real issue isn't whether we should own these companies, but whether we are paying too much for these companies.

How do you balance quality against valuation? I weight my portfolio by quality, but insist that I buy the best valued stock that meets my weightings.

[Kerim]

I missed that one -- thanks for pointing it out, KenBob.

I think the article is mostly a bunch of nonsense. You rightly point out that he dismantles a straw argument that no dividend growth investor I know makes. The author says:

Quote:But I do have a few problems with it, including the fascination with the dividend, the lack of diversity in the names and sectors, and the overvaluing of companies that are well known, household names.

* * * * *

I have two major problems with dividend growth investing, and that's the concentration of dividend growth dollars into only a handful of different names and sectors, and the dividend yield having more importance than the underlying value of the security.

I concede that I am fascinated with the dividends that the companies in my portfolio pay. But I do not consider this a criticism at all -- it is a core element of my investing style. If I believed that growth investing was a better approach for me, I of course would not focus so much on the dividends.

As to diversity, this is not a fair criticism of dividend growth investing itself. As I build my portfolio, I pay careful attention to diversity, and will pay even closer attention to it as my portfolio grows. Any investor, using any investing style, must consider proper diversification. Reasonable minds can differ as to how much diversification is appropriate, and one's risk tolerance may lead to more or less diversification. But there is absolutely nothing inherent about dividend growth investing that ignores or belittles diversification. And the fact that some proponents of the strategy may not diversify well is true of every investing strategy.

A second point about diversification is that the companies the author criticizes as getting too much attention from the dividend growth community are themselves hugely diversified. Companies like KO, PG, and JNJ sell thousands of products in hundreds of countries all over the planet. Without doing any actual analysis, I'd venture to say that a portfolio that held only KO, PG, and JNJ might be much more diversified than all of the companies in the author's "better alternative" portfolio together.

A third point on diversification is that there is such a thing as too much.

Final thought on diversification is that the author entreats us to "broaden your search to REITs, to utilities, and to other sectors of the market that aren't as sexy as buying shares in a company everyone has heard of." REITs and utilities are hardly exotic investments, are used by many dividend growth investors, and this suggestion from the author just reinforces that he is not fairly representing the dividend growth community.

I won't dwell on the ridiculous notion that dividend growth investors ignore valuation in buying the familiar names. Most dividend growth investors that I am familiar with are very careful to understand and account for valuation. There is plenty of room under the dividend growth umbrella for different approaches to valuation -- some wait for undervaluation to buy, while others are content to buy great companies at fair prices. But again, the author's straw argument is not representative of the dividend growth investors that I am familiar with.

I am not aware of this author's other work, but based on this article, he will certainly not be getting a "follow" from me!

[fiveoh]

I read this article last night. The author has no clue about DG investors. I didn't waste my time commenting or reading the comments but I'm sure he's getting blasted.

[Dividend Growth Investor]

The comments on this page are spot on about the ridiculousness of the article. The article from Nelson Smith was probably written in order to stir the pot, and generate page views.

Otherwise, the logical and factual inaccuracies were pretty scare. Case in point is this statement "... Conoco Phillips have a big part of their operations dedicated to selling things to consumers in the form of gas stations and convenience stores. "

The author apparently didn't even bother to check what COP does.. It has exited the business of convenience stores several years ago..