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In response to last week’s column about dividend stocks vs. Treasuries, a reader named John wrote in to say, “If you have a couple million dollars, higher-priced dividend stocks make sense. For the smaller investor, not. $100,000 is not going to give you any meaningful dividend income.”
This is something I hear often, though through a couple of different types of arguments. So today, I want to address the basic idea that dividend stocks are really only for the rich. We’ll start with John’s point …
It is true that a $100,000 portfolio like the one I’m managing for my father will not be able to produce enough income for anyone to live on comfortably. Unless your idea of comfort is a grass shack, some coconut trees and a fishing pole. (Throw in a couple surfboards and it might be enough for me, but I digress.)
Heck, even if we really went out on a limb and bought the most aggressive high-yield stocks out there with the entire hundred grand — which is NOT my recommendation — we would still only be generating about $10,000 to $15,000 a year.
But here’s the thing: I’m not saying a $100,000 portfolio of dividend stocks can be your sole source of income in retirement. Hopefully, and despite all the problems with the other traditional retirement systems, you will have other streams of cash coming in from Social Security, a pension, and/or other sources.
And even if you don’t, I’m still saying that a $100,000 portfolio is best invested primarily in dividend stocks for the ideal combination of growth, safety and income.
Think about it: The value of your nest egg is the sum total of whatever you’ve saved and earned up until this point. So whether it’s small or large, it’s all you’ve got. Your only real decision is how best to invest it going forward.
Perhaps you’re thinking that you’d be better off putting the whole amount into some penny stock and quadruple your fortune overnight.
Well, I’m not going to say it can’t happen. I’m just going to say it’s very unlikely to happen. And in many instances, you’ll end up with less than you started with!
On the other end of the spectrum, you could just keep all your money in cash or short-term Treasuries. With this approach, you’d have very little risk of loss … other than in your money’s purchasing power over time. Yet you’d also have practically zero chance of ending up with more than you started with. Meanwhile, withdrawals from your nest egg would quickly take your balance down to zero.
If anything, I would argue that someone with many millions is precisely the person who CAN afford to avoid risk altogether and opt for cash or short-term Treasuries. This is precisely what is meant by the old Wall Street aphorism — “You only need to get rich once.”
Ironically, if you had many millions, you’d also be able to take a flyer on a penny stock if you felt like it, too!
Hey, what can I say? It’s just nice to be rich, I guess.
Anyway, my argument is that — precisely because most folks don’t have massive portfolios — they should essentially split the difference in terms of risk and reward, and opt for a conservative mix of stocks that can rise in value over time and still kick off reasonable income year in and year out.
But We Should Also Remember That
Time Can Play a Big Part Here, Too!
We’ve already established that a $100,000 portfolio of dividend stocks won’t be enough to retire on. But what we didn’t address is that there’s another assumption built in to the argument here — namely, the idea that we’re talking about right now.
Now, let me be clear: Even if we are talking about right now, I think dividend stocks are a good answer for most investors.
Yet, if you’ve got another ten years — or longer — before you really need to start tapping that $100,000 … then there is a strong chance that just your portfolio could be enough to sustain you!
A few reasons why:
First, as I’ve pointed out many times before, when you buy dividend stocks that steadily raise their payments, your effective yields go way, way up over time. (For more on how this works, and some of the astounding numbers involved, click here to watch my presentation on it.)
Just this fact alone means you could easily be earning $15,000 to $20,000 a year from your original $100,000 portfolio a decade from now.
Second, during that decade you could be reinvesting your dividends into more shares of stock. This is putting an extremely powerful form of compounding to work for you because your dividend streams are growing over time … your number of dividend-paying shares is growing over time … and those two forces are continually feeding off of each other!
So now, maybe we’re talking about $30,000 a year from your original $100,000 investment!
Plus, we haven’t even considered capital appreciation in your portfolio. No, the broad U.S. stock indexes haven’t risen over the last decade. But certain companies — including a couple of my favorite dividend stocks — are worth more today than they were in 2000. Additionally, one could argue that there are more gains ahead of us in the next decade simply because the last ten years have been so lackluster.
So put it all together, and today’s 55-year-old with $100,000 to invest could be 65 and sitting on a $150,000 nest egg producing $30,000 a year (or more) in income.
Again, there is far more historical reason to believe this scenario than the idea that you will pick the next Apple … or that sitting in cash will do anything for your portfolio’s ability to grow. And that’s why, whether you’re rich or of modest means, I think dividend shares should play a part in your retirement strategy.
Best wishes,
Nilus
P.S. To learn exactly what moves I’m making in my own dad’s $100,000 portfolio, just click here.
{ 4 comments }
Depending on future Dollar returns is very risky,with the Dollar bubble likely to burst at any time.
Oh, I thought that dividends were for the poor! So I have a portfolio of a bit under $200,000 and live on my income from that plus about $700/month social security: and I’m 77 and am supporting a disabled wife. Except for $6200 in DGP and $3400 in GLD, everything else is high dividend, like NLY 14% and AGNC 19% and CIM 16% and IVR 17%, with others at 9% and 10% that pay monthly. All that gives us an income of about $25K on which we live not badly: mortgage $370, no TV, no cellular telephone, no credit-card debt, and two vehicles 1990 and 1991 of which the 1990 was a gift. We live in the San Francisco area. What do you think of that?
By the way, at age 59 I finally yielded to get my first credit card, and have *never* bought anything with it on payments.
Very good column, Nilus! I have often been critical of some of the Weiss Group M&M comments and proposals, but you make some simple, even elegant, points here. I wonder about something that you might discuss in some future column, however, i.e. the relative benefits (and risk, costs, etc.) in use of dividend stocks, vs mutual funds doing the same or similar as you are doing in your portfolios. The respective tax consequences and other “bookeeping” practicalities would also be worthy of mention. KEEP UP THE GOOD WORK!
When you back test the, say, 12 stocks with the highest dividend yield for total returns over the past 12 years, you find that until November 2005, these were very profitable investments. After that time, their combined maximum drawdown was between 75% and 85% back in February 2009 and they haven’t come up back yet to their previous highs. Their total returns are presently dropping faster than the Indices. I thought that safety is the inverse of risk and that risk is directly proportional to the drawdowns of your total returns.