My Portfolio Business Plan

[Dividend Watcher]

I've advised a lot of the new people here to develop a business plan to build your portfolio. Now that I've completed the latest revision, it's time for me to put up or shut up. I thought it would give some ideas if you're working on your own plan and I could get some feedback on things I'm missing or totally out in left field on. Feel free to add your own or some excerpts. I realize everyone's goals and methods may not be the same. Without further ado ...

My Retirement Investment Business Plan

This is the business plan to manage my retirement investments so that I can achieve my goals at retirement and beyond.

My Goals

I plan to retire at the age of 67 which is the age I can collect full Social Security benefits. However, I'd like to postpone that until I am over 70 years of age. As of August 2013, Social Security benefits are expected to be $xxxx per month at 66 years and 8 months, my full retirement age.

At retirement, my income will consist of Social Security and the dividends from my retirement portfolio(s). I will retain as much capital as possible to distribute to my children.

At retirement, my goals are:

• Dividend income greater than $xxxx/year. This in addition to any interest received from bonds, CDs or savings accounts.
  
• Dividend income from the portfolio as a whole increasing at a rate greater than 150% of long‑term inflation. For this plan, I estimate long-term inflation to be 4.00% due to higher medical expenses as a retiree. In other words, I want the aggregate dividend (income) growth rate of the entire portfolio to be greater than 6% annually.
  
• Portfolio value to be greater than $xxxxxx. At this value, I should be able to achieve my income goal with a blended yield of 3.5%. This would eliminate the pressure of using riskier investments to meet my income goal.
  
• Household debt to be less than 5% of expected income from all sources.
  

Strategy

• Save as much as possible in tax-sheltered accounts to build my capital base and minimize current income taxes while employed prior to retirement.
  
• Invest in dividend paying stocks, high-interest rate investment-grade bonds or CDs (> 5.0% yield), REITS and MLPs. The majority should be in investments that increase their payouts annually at a rate, on average, equal to or greater than inflation of 4%. Avoid ETFs and mutual funds except for foreign securities where financial clarity is unclear and regulation is less than that found in the U.S. International mutual funds and ETFs may be used to provide some diversity.
  
• Pay down debt, if any, as fast as possible starting with that carrying the highest interest rate.
  

Tactics

1. The minimum number of stocks in the portfolio should be 20 and the maximum number should be 35. This should provide sufficient diversification to minimize adverse results to the portfolio yield or overall value.
   
2. There should be at least 1 stock from each S&P/GICS Major Industry Sectors. These are:
   • Energy
     
   • Materials
     
   • Industrials
     
   • Consumer Discretionary
     
   • Consumer Staples
     
   • Health Care
     
   • Financials
     
   • Information Technology
     
   • Telecommunications
     
   • Utilities
3. Consider rebalancing the portfolio at least once per year. The goal is to not let any investment comprise more than 9% of the portfolio. Preferably, no single investment will be more than 6% of the portfolio.
   
4. Reinvest all dividends in their respective companies as seen fit. Overvaluation or exceedingly high portion of the portfolio should be the primary reasons to stop dividend reinvestment and re-deploying the income stream.
   
5. Minimize trading of stocks and other securities to minimize transaction costs. Dividend growth investing takes time and patience to realize good results.
   
6. Once withdrawals begin, only withdraw the minimum required to fund expenses in the early years. The goal is less than 3% of the portfolio value and should be less than dividends expected to be received. Once I reach age 70, only withdraw the required minimum distribution (RMD – required by the IRS for traditional IRAs) if possible. Let the balance of dividends accumulate to be reinvested or until another investment can be found.
   
7. Should dividends not be sufficient to meet the RMD, consider an in‑kind distribution of one or more stocks to a taxable account so as not to decrease income-producing capital.
   
8. Fixed income investments, if desired, should have a yield to maturity of greater than 5% and maturity should not extend beyond 10 years.
   
9. Up to 5% of the stock portion of the portfolio may be used for special situations such as higher growth to build capital or unusual events that are company specific. Even in these circumstances, a company should pay a dividend to compensate for the increased risk.
   

Investment Criteria
Purchases
These are the important criteria to consider before investing in a company:

• Stocks must pay a dividend and should have been paid at a higher annual rate for more than 5 years. Use the CCC list as a primary source for investment ideas.
  
• The P/E ratio for the trailing 4 quarters should not exceed 20. Additionally, it is preferable that the P/E ratio be less than or equal to the average P/E over the last 10 years. No more than 2 outliers may be excluded when calculating the average P/E.
  
• Dividend yield at time of investment > 2.5% or 150% of the S&P 500 yield (whichever is higher). This excludes the Special Situation portion mentioned in the Tactics section.
  
• Dividend growth rate > 4% for the lesser of the 3, 5 or 10 year periods. Using the lowest rate of the three time frames should be a conservative estimate of future dividend growth.
  
• Payout Ratio < 70% of free cash flow (EPS + depreciation – capital expenditures) for public corporations. For some investments, such as REITs and MLPs, a higher payout ratio may be allowed provided other financial factors are deemed adequate.
  
• Current ratio should be > 1.0 and the higher the better. Some companies have operated for years with a current ratio less than 1.0. This should be taken into account when analyzing a company's finances. Investigate cash flow, free cash flow and interest coverage to ensure the company can pay its bills and the dividend.
  
• Earnings Per Share (EPS), or Funds From Operations (FFO) in a REIT, increasing at a Compound Annual Growth Rate (CAGR) > 3% over the last 5 years.
  
• Debt/Total Capitalization < 50%. REITs and MLPs may exceed this due to the nature of the business. In this case, investigate debt maturity dates to ensure they're spread out over the long term.
  

Sales
Consider selling a portion of the investment when:

• It becomes over 8% of the portfolio.
  
• The P/E ratio for the trailing 4 quarters EPS exceeds 24.
  
• The Dividend yield drops below 2%. The exception would be companies selected for the special situation portion of the portfolio to capture capital growth. Try to have a replacement company (or companies) that meet investment guidelines selected prior to selling to minimize the interruption to the income stream.
  
• The dividend is frozen for more than 6 quarters for quarterly payers, 18 months for monthly payers or 2 years for less frequent distribution schedules.
  

Strongly consider selling the entire position when:

• It cuts the dividend.
  
• It becomes seriously overvalued. This includes a P/E ratio greater than 30 or greater than 200% of the average P/E for the trailing 10 years.
  
• It is going to be acquired or merged.
  
• It plans to split itself up or spin off a separate company and the results would be detrimental to the portfolio. Sometimes selling just a portion of the resulting entities would be sufficient.
  

Sell immediately if:

• It suspends or eliminates the dividend.
  

I recently added this section just as an inspiration section to keep me grounded in my thinking. I have more to add eventually but they have to be meaningful to me in some fashion to be included.

Notable Quotes
These are quotes I've taken from several sources that I will use to help keep me from straying from my goals.

• “I have a few general rules I live by. First, diversify, but do not go crazy. Stick with your good ideas. Second, never panic. Third, watch the business fundamentals and let someone else watch the technical aspects. Fourth, seek to hear or read good advice. Fifth, hold some cash so you can buy from panicked sellers as I did in 2008, 2009, and in the first quarter of 2014. And last, but not least, always take advantage of dividend reinvestment for low cost compounding.”; Kevin Arledge on Seeking Alpha, April 2014
  
  
• “Markets can remain irrational a lot longer than you and I can remain solvent.”; Attributed to John Maynard Keynes by some, researchers also point to A. Gary Shilling
  

[TomK]

That is really great, and inspirational. Thanks Dividend Watcher!

I've got a written plan, but it is generally headings and numbers, not so thoughtfully written out as this. It actually looks a little daunting to me, but I may just take a crack at something like this. I especially like how you've combined the details of a very specific plan with a sprinkling of inspiration and wisdom. My favorite line is the self-reminder:

(05-02-2014, 12:50 AM)Dividend Watcher Wrote: Dividend growth investing takes time and patience to realize good results.

Really nice work -- thanks for sharing it with us.

[cannew]

(05-02-2014, 12:50 AM)Dividend Watcher Wrote: Sell immediately if: It suspends or eliminates the dividend.

That seems like short term thinking. Look into why they suspended or even cut the dividend. If you bought the shares after doing all the work you've outlined in your plan than don't sell without doing the same amount of work to see if the long-term outlook for the company is still good.

During the 2008 crisis the Cdn banks stopped increasing their dividends, but none cut. Many had being paying and increasing their dividends since the 1800's (pretty good record). If you had owned them for many years with that type of record, would you then sell because they stopped increasing?

I bought more shares and wish I had bought even more, especially when the yield went to 8% and higher (their ave yield was 3.5% to 4.5%).

Every one should have a plan and yours is great but exhaustive. For me I've tried to stick with a simpler plan and for my core holdings doubt I would sell unless the company really got into trouble.

[rnsmth]

(05-02-2014, 10:40 AM)cannew Wrote:

(05-02-2014, 12:50 AM)Dividend Watcher Wrote: Sell immediately if: It suspends or eliminates the dividend.

That seems like short term thinking. Look into why they suspended or even cut the dividend. If you bought the shares after doing all the work you've outlined in your plan than don't sell without doing the same amount of work to see if the long-term outlook for the company is still good.

During the 2008 crisis the Cdn banks stopped increasing their dividends, but none cut. Many had being paying and increasing their dividends since the 1800's (pretty good record). If you had owned them for many years with that type of record, would you then sell because they stopped increasing?

I bought more shares and wish I had bought even more, especially when the yield went to 8% and higher (their ave yield was 3.5% to 4.5%).

Every one should have a plan and yours is great but exhaustive. For me I've tried to stick with a simpler plan and for my core holdings doubt I would sell unless the company really got into trouble.

There is nothing to prevent one from re-buying. My answer is yes, sell immediately on a suspension, reduction or elimination of the dividend

[Dividend Watcher]

(05-02-2014, 09:17 AM)TomK Wrote: I've got a written plan, but it is generally headings and numbers, not so thoughtfully written out as this. It actually looks a little daunting to me, but I may just take a crack at something like this.

Tom, thanks for the compliments.

I think everyone should have a plan that works for them. That includes knowing how you process information. For me, it's a narrative; I need to tell myself a story and, since I usually don't see anything as black & white, the narrative can get nuanced. Notice how long-winded many of my posts are? I'm also a visual learner so charts, diagrams, examples, pictures, etc. help me comprehend concepts and processes.

Yeah, it's a lot of words but a lot of it I ignore until I do a review of where the portfolio stands. For example, all the preliminary stuff about retirement age, portfolio size, income stream I don't pay attention to until it's time to stop and review my progress. That's only about once or twice a year. All the stuff about fixed income is moot right now. I have no interest in fixed income at this point, especially at these levels. Maybe when I get to retirement age.

A lot of the investment criteria have become second nature by now and I only glance at it when I'm wondering about a purchase. If I have a good conviction about a company, I buy if the cash is available. Same with the selling points.

If bullets or lists work for you, that's fine. Sticky notes on the computer screen would suffice if that's how you normally work. I just wanted to share my plan since I exhort many others to develop their own. For a long time I had no plan -- my portfolio reflected that.

---

(05-02-2014, 10:40 AM)cannew Wrote:

(05-02-2014, 12:50 AM)Dividend Watcher Wrote: Sell immediately if: It suspends or eliminates the dividend.

That seems like short term thinking. Look into why they suspended or even cut the dividend. If you bought the shares after doing all the work you've outlined in your plan than don't sell without doing the same amount of work to see if the long-term outlook for the company is still good.

During the 2008 crisis the Cdn banks stopped increasing their dividends, but none cut. Many had being paying and increasing their dividends since the 1800's (pretty good record). If you had owned them for many years with that type of record, would you then sell because they stopped increasing?
...
Every one should have a plan and yours is great but exhaustive. For me I've tried to stick with a simpler plan and for my core holdings doubt I would sell unless the company really got into trouble.

I think you may have misinterpreted what I wrote. "Sell immediately" is generally reserved should there be no dividend.

During the Great Recession, I owned State Street Corp. (STT), one of the founding commercial banks in the U.S. I thought more of them as a custodian bank for other financial institutions, large corporations and wealthy individuals. They also had a large M&A and IPO division. I never thought they were a repository or counter-party to much of the toxic assets the money center banks were dealing with. Duh! When they announced that they dropped their dividend to a penny (essentially zero) and the stock gapped down over half their value in the first few minutes of trading, I sold immediately and moved on. I've never looked back nor regretted it.

I agree, to me a freeze I can live with if the company seems to have a viable plan. GIS (in the past) and INTC (currently) both have frozen their dividend. I trimmed INTC lately because the reinvested income had caused the position to grow so large. Perhaps as I age I won't be as patient but I have a 17 year relationship with INTC. I know how ruthless their sales and technical teams can be.

I may live with a small cut, again, if the company can explain why and how they're going to fix it. That's why I stated "consider" and "strongly consider" selling for a freeze or cut. There's no imperative meant yet there are still several hundred other companies on the CCC list.

You have to admit, a company that has a history of regularly increasing their dividend and then cuts or eliminates it is having some serious business problems. As Ron says, you can always buy it back once things change or you have a reason to stick with them going forward.

The important point, to me, is having the plan.

[earthtodan]

Thanks for posting this, it serves as a reminder to take the business plan idea off the back burner. Lots of moving parts swimming around in my head though.

I do wonder about the necessity of selling a position because it becomes too much of your portfolio, in this case over 8%. Do you have a high growth expectation for any of your stocks? Actually maybe this applies more to a bear market. Let's say the market takes a serious downturn, and one of your positions becomes more than 8% by virtue of holding up the best. Do you trim it?

[rnsmth]

My plan is much less formal than that, but it works for me and I generally consider my rules to be strong guidelines rather than absolutes.

Here is one example - typically I want a 3% current yield. Back in December I was looking at two cyclicals, DE and CAT. CAT's current yield at the time was 2.7%, DE's was somewhat below that, about 2.2% as I recall. Both are financially strong companies. Based on current yield and DGR's (DE's 3 year growth rate was 2 points higher).

I selected CAT. I had seen a CEO interview after a poor CAT quarter and was impressed with him and the straight way he talked about the quarter and the actions CAT would take to rationalize costs, adding that when business picked up CAT would be well-positioned to grow profits. I bought on that dip, another things I like to do.

I selected CAT. That has worked out well, with a 23% total return since the purchase on December 9, 2013. To me, this is particularly important give the cyclical nature of its business. It may become a core position but, again given its cyclical nature I am undecided about that. My tendency, though, is to do very little absent a threat to the dividend or the sustainability of acceptable dividend increases.

[Be Here Now]

(05-02-2014, 12:50 AM)Dividend Watcher Wrote: Sell immediately if:

• It suspends or eliminates the dividend.
  

There is some confusion here. 'Suspend' means 'temporarily prevent from continuing or being in force or effect'. The only difference between suspension and elimination is the stated intent to rescind the suspension. In this context is does not mean 'freeze the dividend' as some commenters have interpreted it.

In the context of the 2008-09 crash, I view a dividend freeze as an allowable event for a dividend growth investor, but not a dividend suspension or elimination.

---

(05-02-2014, 12:50 AM)Dividend Watcher Wrote: Notable Quotes
These are quotes I've taken from several sources that I will use to help keep me from straying from my goals.

• “I have a few general rules I live by. First, diversify, but do not go crazy. Stick with your good ideas. Second, never panic. Third, watch the business fundamentals and let someone else watch the technical aspects. Fourth, seek to hear or read good advice. Fifth, hold some cash so you can buy from panicked sellers as I did in 2008, 2009, and in the first quarter of 2014. And last, but not least, always take advantage of dividend reinvestment for low cost compounding.”; Kevin Arledge on Seeking Alpha, April 2014
  
  
• “Markets can remain irrational a lot longer than you and I can remain solvent.”; Attributed to John Maynard Keynes by some, researchers also point to A. Gary Shilling
  

I have a business plan that has many elements of yours. Mine starts with notable quotes, including your second. I do not have your first but it is in many ways my guiding light. Here are some of my favorites:

• “Change is the only constant in life.” - Heraclitus
  
• “Exploit folly, don't participate in it." - Chuck Carnevale
  
• "An investment portfolio is like a bar of soap; the more you touch it, the smaller it gets." - anonymous
  
• "Only those who will be sellers of equities in the near future should be happy at seeing stocks rise. Prospective purchasers should much prefer sinking prices." - Warren Buffett