Take an Investing Lesson from Egg Farmers

For risk-averse investors, certainty is paramount, and cash is king.

But in today’s low-interest world, dependable and generous cash-on-cash income is almost impossible to find.

If you have any doubt, consider the anemic interest rates that banks pay you on your CDs and savings accounts.

Today, I’m going to introduce you to an often overlooked — especially as the popular press continues to crow about the new market highs hit seemingly every day — but reliable source of income that’s hidden in plain sight.

This often-ignored fountain of cash is an old friend to Safe Money investors like me.

Can you guess what it is?

It’s dividends, of course.

Yes, dividends give you cash you can count on and money you can spend.

To really drive home the point about how important dividends are to investors, I’m going to share with you an analogy that a former colleague, Jim Garland, introduced to me. It’s a story about chickens and eggs.

For you to get the most benefit from the analogy, it’s best if you start with a clean slate. To begin, I want you to view your investments as if you were operating a farm — an investment farm. And on your imaginary investment farm there are only chickens and eggs.

Stocks are chickens and dividends are the eggs the chickens produce. You have a couple of choices for your make-believe agricultural enterprise: (1) You can be a chicken farmer or (2) You can be an egg farmer.

Here’s what you need to focus on to make your choice: If you are a chicken farmer, you focus on the price of chickens. Egg farmers, on the other hand, raise and care for their chickens so they can benefit from the eggs they lay.

Many investors act like stock traders and treat their stocks as if they were chickens. They hold onto their stocks for the time being. But one day they plan to sell them, maybe for retirement … or a big purchase … or a college education. These investors are chicken farmers.

But egg farmers are different. They’re investors who aim to earn income from their investments, including their stocks.

The problem is that many egg farmers — or income-oriented investors — make the mistake of thinking they’re chicken farmers by what they read and hear.

So, to help risk-averse investors (egg farmers) maintain their sensibility amid all the nonsense about stock prices, I’m going to describe a different way of looking at the financial markets.

Many experienced investors are familiar with Modern Portfolio Theory and CAPM (also known as the Capital Asset Pricing Model). But on our imaginary farm, we will use a model called CEPM, or the Chickens’ Egg Production Model, instead.

I’ve presented it here in chart form.

It’s remarkable, to me, how closely the pattern in this CEPM chart fits the stock market over the past 50 years.

Over that time, stock prices (or chicken prices) have been volatile — especially during the past decade — with the overall long-term trend being up.

On the other hand, dividends (or egg prices) have moved upward as well, but along a smooth and steady trend line.

For good reasons, chicken farmers worry about chicken prices. To a chicken farmer, whose first thought upon waking every morning is — “Should I buy or sell chickens today?” — risk is closely related to price volatility.

On the other hand, the waking thought of an egg farmer is: “How many eggs will my chickens lay today, and how many will they lay in the future?” For an egg farmer, risk reflects the health of the flock (or the stocks in the portfolio).

Market values matter only to egg farmers because a growing dividend stream requires a growing nest egg. And “risk” means “events that threaten dividends.” There is no mumbo jumbo about how to “maximize returns at a prudent level of risk.”

Consider the wonderful consequence of this view: Stock-price volatility doesn’t matter to egg farmers. In fact, volatility provides an opportunity to add new chickens to the flock at reasonable prices.

It’s hard being an egg farmer in a chicken farmer’s world. But it sure can be a lot less stressful. And often more profitable too!

And the Safe Money Portfolio is chock-full of a carefully selected group of the world’s finest companies that all pay a healthy and growing dividend … many of which are up in price over 30% so far this year.

That’s a generous dividend yield that’s comparable to the yield on the 10-year U.S. Treasury. But with stocks in the Safe Money Report Portfolio, you get the opportunity for price appreciation and dividend growth.

Whereas, the 10-year just provides a flat line coupon over time and a return of only your original investment at the end.

For example, consider how a firm that once called itself the Minnesota Mining and Manufacturing Company has managed to grow its business for 115 years and counting.

The 3M Co. (MMM), as you know it today, makes a wide array of industrial and consumer products. It plays in many spaces: industrial, safety and graphics, healthcare, electronics, energy and consumer business segments.

A big part of its growth strategy has been to create innovative products. Its management team has also done a good job of acquiring other companies and of expanding into faster-growing emerging markets.

And the stock is rising as a result. MMM is up more than 30% since I recommended it to my subscribers earlier this year.

MMM also maintains a dividend yield of just over 2%. That puts it in the same ballpark as what the 10-year U.S. Treasury pays. Great growth and a generous dividend yield make 3M a winning portfolio candidate for both egg and chicken farmers.

Best wishes,

Bill Hall

Bill Hall is the editor of the Safe Money Report. He is a Certified Public Accountant (CPA), Chartered Financial Analyst (CFA) and Certified Financial Planner (CFP). Besides his editorial duties with Weiss Research, Bill is the managing director of Plimsoll Mark Capital, a firm that provides financial, tax and investment advice to wealthy families all over the world.