I apologize in advance for the length of this post but to properly cover the topic there’s no way around it. I urge you to stay the course and read the entire post.
If you’ve ever tried to extract money from the stock market, you’ve probably found it to be a maddening endeavor. The stock market can be a very frustrating place. It’s often very counter-intuitive where what seems logical doesn’t work and what seems illogical works well. A company making millions of dollars in profits can miss the analyst’s quarterly earnings expectations by pennies and its stock can be punished beyond reason. Then the next company can miss the estimate and see it’s stock price soar because analysts find some magic language deep in the company’s quarterly report. Trying to decipher it is madness on a grand scale.
As a long time investor/trader I have tried most of the approaches out there. And there have been times when I’ve made money. The difficulty comes in making money on a consistent basis. As the saying goes, even a blind hog can find an acorn once in awhile. But, what works once or twice often stops working and the madness creeps back in.
Eventually, and it took longer than I care to admit, I said to myself, “This is ridiculous. There has to be a way to consistently make money in the market.” I put a hold on my accounts and went on a journey to find a simple, consistent, repeatable method to invest in the market. Investing in dividend paying companies is where I landed.
The first decision I made, and probably the most important, was to stop trading and start investing. I revisited my legacy of losing trades and found that in practically every case, if I had just held the shares I would have made money. And if you think about it, that only makes sense. There has never been a 20 year period where the stock market has delivered a negative total return (dividends plus price appreciation). Warren Buffett has said his favorite holding period is forever. He knows what he’s talking about.
Has every company that’s ever been listed on the stock market adhered to this tenet. Of course not. If there’s one thing for sure with respect to the market, it’s that’s there is no never and no always. Lots of companies have gone bankrupt. But studies have shown that companies that pay steady, rising dividends rarely go out of business. So if we’re going to adopt a holding period of forever, we should probably look to dividend paying companies as the place where we want to invest.
This led to my second decision which was to focus on companies, not the market, for the long term. It’s been said that in the short term the market is an emotional voting machine and in the long term a weighing machine. The short term is often irrational, full of fear and greed. The long term is more measured, based on business success or failure. In other words, it’s rational. I’ll take rational over irrational. Need confirmation? Just check the up and down gyrations of daily stock charts versus those of monthly stock charts. They do exist on monthly charts but are greatly smoothed out.
The final part of this decision was to invest only in large well-established companies producing necessity type products with a history of rising dividends that give every indication of continuing to do so well into the future. And, because more decisions made generally lead to more mistakes, to do so only at the end of the month. A nice side effect of this approach is fewer commissions paid to the brokerage company.
So, ultimately the decision was made to invest in dividend companies on a monthly basis, hold for the long term, and collect and reinvest dividends for as long as possible. The next question was how to go about it. A much more difficult question to answer.
One of Warren Buffett’s more well known statements is to be fearful when others are greedy and greedy when others are fearful. The moral of the story is to invest when companies are under pressure and stock prices are low relative to the norm. There can be all sorts of reasons for this ranging from temporary company problems to total market meltdowns like in 2000 or 2008. The investment considered to be Warren Buffett’s most successful came about from a self-inflicted company problem due to Coca-Cola changing the recipe of its iconic drink. These “irrational” reactions often turn out to be great investing opportunities and should be taken advantage of.
My method to taking advantage of these opportunities is primarily based on tracking stocks with a long term moving average, 60 month is my preference, and when a stock’s price moves under this moving average it’s considered “on sale” and under consideration for investment. The farther below the moving average, the more attractive and “on sale” the stock becomes. Other factors include how far a price has corrected from the highest monthly close in the last 5 years. Attractiveness and significance increase as the correction grows. As would be expected, dividend yield and its relation to a 10 year median plays a very prominent role as well. Because retirement age is growing near for me, I prefer a starting yield of 3% or more that is also above the 10 year median. The farther above the median the better. If you have more time, you certainly don’t have to adhere to the 3% hurdle.
So there it is. My method to combat the madness. It’s not perfect. It’s certainly not the only way. But it is a workable method that I have been able to take advantage of over the past 15 years.
Congratulations for making it down the page.