Track Records Count

One of the easiest ways to classify companies or stocks in general is to separate them into groupings based on their track records. My preferred method is to focus on companies who have consistently increased their dividend for a minimum of ten years in a row. The reason I demand a track record of dividend increases over at least a decade is because it demonstrates consistency.

When a company is able to show that it can continue to maintain its profitability through stable cash-flow and earnings patterns over a period of a decade or more, this demonstrates that management has a handle on how to weather adverse market conditions. Over any period of a decade, the general economic tide is sure to have risen and fallen at least once in marked fashion. Economies naturally ebb and flow over time, contracting and expanding through the simple market dynamics of supply and demand.

Companies that can continue to increase their dividend payouts for ten years or more consecutively typically produce a product that consumers need and don’t cut back on during rough patches. I’ve absolutely never heard someone say they cut back on tooth paste to weather a recession or loss of a job. Not surprisingly, companies that supply these recession proof or at least recession resistant products tend to have long, prestigious track records. Household names like Johnson & Johnson, Procter and Gamble, Colgate Palmolive, and others are among the most consistently profitable corporate engines in the world for just this reason.

Whenever I hear someone say they were burned in the stock market, the story tends to be the same. They either got their pocket picked on a fast-moving stock in a fast-moving industry with “lots of potential” but no track record, or oftentimes they really didn’t even know what they were invested in to begin with. Know what you own if for no other reason than the companies producing the simplest products tend to make the best investments.

Focus on the track records of the companies you invest in and happy investing.

Full Disclosure: Long JNJ

How To Get Started

The financial markets are incredibly vast. There are virtually limitless ways that a person can invest their money and different places to invest it. Bonds, mutual funds, foreign exchange trading, individual stocks, businesses, real estate, and so on, all offer different ups and downs for an investor. Given this wide range of investment choices, a natural question that comes up is, “How do I get started?”

The best thing to do to get started is to simply start small. Pick one company that produces a product you love and research it. Get to know its line of business from behind the scenes by researching the company website, downloading or ordering the annual report (which you can do for free with most companies through their Investor Relations department or website section), and even asking friends and family what their perceptions are of the company. Find out who the key executives are, what management’s past resume is, and see whether they are net buyers or sellers of the company’s shares.

Once you’re ready, delve a bit deeper into the numbers by learning about the dividend yield, dividend payout ratio (how much of the company’s earnings are given out as dividends to shareholders), p/e (price to earnings) ratio, and other fundamental pieces of data that will help you to value a company. In addition, you can research the company’s price history and compare the current share price or valuation to historical measures.

What you really are looking for in a long term investment is sustainability. You want to be confident through your analysis that the company you are buying is stable and can reasonably be expected to grow its business over the long haul. Steady growth and a long track record is preferable to rocket-fuelled growth over a short period. Companies with 25-years or more of consecutive dividend increases have demonstrated that they can withstand adverse market conditions and ever-changing investor sentiment. This is why the Dividend Aristocrat List published by Standard & Poor’s can represent a good starting place for analysis (emphasis on “starting point”, as past returns are not an indication of future returns since things are always changing).

Ultimately, the key to investing is to be naturally curious and seek out as much information as you possibly can about your potential investments. You can quantitatively and qualitatively value a company, so every piece of information is useful. Peter Lynch recommends in his book One Up on Wall Street, for instance, to eat at the restaurant you’re thinking about buying. If you don’t like the food, that may be a sufficient reason to stay away from the shares (be sure to consult friends if you’ve got bad taste).

Some people will say, “I don’t have the money to invest right now,” and they don’t do any research. The problem is, when they eventually do get the money to invest they’re simply not prepared. The key is to be researching even when you don’t have the money so that when you do get it, you’ve already identified several good choices for investment and it’s not a scramble to find a home for your hard-earned dollars.

The best investor is the well-informed investor, and that is an ongoing process. The key to getting started is to simply "get started". Take small steps and keep going.

What Is Financial Freedom?

I’ve recently been having more and more discussions with people about what exactly “financial freedom” is. One remark from someone lead me to write on this subject as they said, “I would be too bored to retire.” I believe this is approaching the subject from the wrong direction. Financial freedom isn’t necessarily retirement. Being financially free does not mean you have to quit your job or fundamentally change the way you live your life.

Financial freedom is simply the freedom from worries brought on by the lack of money to live life the way you would like. Financial freedom is the state where an individual has enough positively cash flowing investments that all of their expenses would be covered without them needing to work. The choice to continue working is one that involves other considerations such as whether one likes their job, enjoys the social aspect of working, or simply would like some additional income. Financial freedom is simply having all expenses covered by passive income (income that rolls in whether you are working or not, as by dividends from companies, rental income from real estate, royalties from book or song writing, etc.).

How do you know you’re financially free? If you require $20 000 per year to cover all of your living and daily expenses, including the vacation that you take every year, etc., and you generate $19 999 per year from dividends, you are not financially free yet. The moment you cross over to $20 000 from passive investment income, you can consider yourself financially free. If you require $130 000 and you generate $130 000 from passive investments, then you would be financially free here also. The amount of money you need to generate from passive investments to be financially free depends on your lifestyle. The moment your expenses are covered, you can consider yourself financially free.

Why is financial freedom a good thing? With the amount of people who have lost their jobs over the course of the past few years with the recession, we have seen firsthand the importance of having other streams of income than simply a job. When your sole source of income is your job and you don’t have your money working for you through investments, if you lose that job all income flowing toward you stops dead. In that situation, you need to scramble mightily to find a new job to replace that lost income. If you are financially free, or even part of the way there, you at least have something else to buffer the loss of your primary source of income. While being financially free doesn’t mean you need to quit your job or retire, it certainly helps in the event that your job is taken from you. Financial freedom adds some security to your economic situation.

The key to all of this is to take the first baby steps and get started.

U.S. Credit Rating Downgrade

Friday night after markets were soundly fast asleep, closed for the weekend, the Standard & Poor’s rating agency announced that it would be downgrading the U.S. credit rating from AAA to AA+. Sure enough, this move sparked intense debate as to what the overall impact would be. The question, “If the U.S. is not of the highest quality, who can be?” was bounced around.

Not surprisingly, the stock market tumbled heavily on Monday, opening and remaining lower throughout the session. Tuesday, however, stocks bounced back mightily and closed with a significant portion of the prior day’s losses returned. I expect to experience intense swings like this more and more going forward as trading happens so much faster in our digital age than it ever has in the past. While stock trading will require increasing speed and precision, I still believe there is place for the long term fundamental investor who buys on weakness in the market and holds through the downturns. That’s where I do and will continue to sit.

The credit rating downgrade, for what it’s worth, did not particularly tell us anything we did not already know. The U.S. has debt and spending problems, absolutely. The wording of the downgrade also indicated that the political posturing that prolonged the debt ceiling debate may also have lead to the downgrade. Yes, the U.S. is heavily inundated with political bantering. That said, the United States is a democracy. While the extent of the debate was a bit stifling, I’d be more concerned if there was no debate at all. The best thing we can do is try to take lessons out of what we’ve seen over the past few weeks (and particularly the past two trading sessions) to make ourselves better investors.

What can we learn from this volatility we are experiencing in the market? Capital gains or price appreciation in the stock market is incredibly fickle (not that we didn’t already know this). Judging the market based on the movement of share prices can be maddening as the markets bob and sway based on investor sentiment at any given moment.

While the media focuses on the price of the market going down, a dividend investor can focus instead on the rising yield of the dividends of the underlying companies. Investors and speculators can collectively decide where the share price of a company will go, but the board of directors, basing their judgment on the fundamental health of the company going forward, decides how much of a dividend to pay out to shareholders. A dividend increase represents a vote of confidence on the part of those who have been entrusted to guide a company into the future. A share price increase may or may not be indicative of anything positive a company has done. The share price may just be rising on the tide of the overall market and tell us nothing about the underlying company.

I intend to continue to keep my eye on stock market downturns only insofar as they provide me greater opportunities to buy the companies I want to own more cheaply. As noted previously, a company whose story hasn’t changed over the course of one trading session is simply a better value once its price has fallen during a selloff. Be mindful, be patient, and prosper.

U.S. Debt Ceiling Debate

A lot has been made recently of the current U.S. debt ceiling debate. The idea behind it is that if the debt ceiling was not raised, the U.S. would – in unprecedented fashion – default on some of its debt obligations. At this point a deal seems to have been reached and the debt ceiling will be raised, with spending cuts to come as well over a ten year period among other stipulations.

As far as I can tell, the entire situation has truly been a complete farce. The bottom line is that all along the debt ceiling was going to be raised – the U.S. isn’t going to default any time soon on its obligations – and the banter back and forth between political parties has been nothing but positioning for elections. Political ends truly got in the way of the wellbeing of the U.S. – and the financial stability of the world – as most of the soundbytes over the past few weeks have been suggesting that the U.S. was headed for potential financial Armageddon.

Let us not forget that the way the entire financial system works is through printing money. We live in a world of fiat currency – backed by debt – which can literally be printed into oblivion. Increasing the debt limit and meeting obligations is simply a matter of running the printing presses – or doing so digitally.

As a simple matter of supply and demand, what I am expecting to result from the rampant money printing over time is for greater inflation to creep into the system, leading to higher prices for everyday goods.

What’s my protection against inflation? Very simply, dividends are my safeguard. Companies that provide an ever-increasing source of cash flow through dividends and have a long history of doing so are where I prefer to have my money as I can count on those companies to meet and exceed the rate of inflation through price increases based on their strong brand positions. Ever notice the cost of your favourite toothpaste or soda creeping up a few cents at a time? Those little increases give the companies the power to continue to pay their shareholders larger amounts year after year, in steady fashion. I like to be on the receiving end of those increases.

I figure that regardless of what the politicians do and the games they play, people will still keep drinking their favourite drinks, brushing their teeth, and taking their medicine to manage a cold. I’m willing to bet that those recession resistant companies that provide these products will continue to operate regardless of the political wrangling that goes on.