Monthly Portfolio Update: October 2019

Overview of our investment framework.

Summary of dividend payments and increases during October 2019.

Adding to our existing positions in ALB and TXN.

Initiating a new position in JNJ.

Status of our $1M DGI portfolio building journey.

As outlined in our introduction article, we are committed to deploying on average $1000 a month into high-quality dividend growth stocks, with a long-term target of achieving $40k a year in dividend income, reinvesting dividends until that point. Our simulation model considering 4% initial yield and 5% average annual dividend growth rate (DGR) resulted in a target portfolio size of $1M by the end of year 25. Month after month, we present the status of our journey towards the desired $1M portfolio size, hopefully inspiring fellow investors on Seeking Alpha to start their own adventure.

Source: Author's own illustration

Our monthly stock selection process looks as follows:

We look for companies with at least 20 years of dividend growth history. Freezing the payout for one or two years is generally acceptable, in case of an economic downturn or a major acquisition. Companies with a dividend cut in this time frame however do not qualify for our selection process, since we eventually want to live off of a reliable, growing stream of dividends.

As outlined in our business plan, we are modeling a portfolio with a 4% average forward yield and a 5% dividend growth rate. A more aggressive dividend growth rate or deep undervaluation can compensate for a lower starting yield, but we generally look for stocks with at least 3% forward dividend yield, or 50% above the S&P 500. In this case, we target an average historic growth rate of at least 6%.

In general, we look for companies that pay out less than 50% of their earnings and free cash flows in form of dividends. This indicates that the company has ample cushion to continue payments in case of an economic downturn or challenging business environment. There could be sector-specific exceptions (e.g. tobacco or cyclical companies), therefore the criteria has to be evaluated on a case-by-case basis.

This selection criteria supports the valuation process, based on the idea that blue chip dividend growth stocks' yield fluctuates around a relatively fixed level over the years that approximates fair value. If the company's current yield is far enough above its historical yield, then the stock is likely undervalued.

We consider a portfolio consisting of 30-50 individual dividend growth stocks to be an ideal combination of manageable size and proper diversification. Although we are targeting a portfolio above $1M in a 20+ year time frame, we set a mid-term milestone of $100k for determining the dollar cost allocation of our holdings. Based on this, ideally no stock should account for more than 3% of this mid-term target, translating to $3000 each. This metric is subjective though, in some cases where e.g. the yield is lower or the company has a narrower moat, the allocation target skews more towards the 1-2% range.

In October 2019, we received dividend payments from 10 companies totaling $232, slightly higher than the current average monthly income forecast for our portfolio.

Source: Author's own illustration

Since the beginning of the year, we received dividends of $2071 in total, arriving at a monthly average gross payout of $207 so far.

Source: Author's own illustration

Considering dividend increases, the highlight of the month was Starbucks' (NASDAQ:SBUX) announcement of a 13.9% increase, followed by V.F. Corp's (NYSE:VFC) 11.6% raise along with Omega Healthcare Investors' (NYSE:OHI) 1.5% dividend hike.

On top of all that, AbbVie's (NYSE:ABBV) Nov. 1 declaration of a 10.3% increase came in as a pleasant surprise in the double-digit territory, reflecting management's strong commitment to returning cash to shareholders through a growing dividend.

In October, we allocated $1263 in total into our portfolio, which slightly exceeds our monthly target of $1000 new cash plus reinvested dividends.

Source: Author's own illustration

Starting with the biggest purchase in terms of dollar cost, we acquired further shares in Albemarle (NYSE:ALB) during the month, mainly due to its depressed valuation and future dividend growth potential fueled by the company's massive lithium expansion plans, as outlined in detail in our focus article. Our current allocation by cost stands at ca. $2060, equaling 2% of our mid-term $100k target portfolio size. By that, we finished building our position in Albemarle, waiting for the company's valuation to revert to the mean while collecting strong and growing dividends along the way. Even the most conservative estimate of a 12 P/E in 2021 points to a double-digit total return potential for the next 2 years, as illustrated below:

Source: FASTGraphs

We also increased our holdings in Texas Instruments (NASDAQ:TXN), after the company's recent 16.9% dividend increase and share price drop brought its starting yield above the 3% threshold. We plan to build our position in TXN gradually, by meaningfully increasing our stake below the $100 mark. Our target allocation in Texas stands at $3000 or 3% of our mid-term $100k portfolio size goal, leaving the position ample room to grow from the current ~$845 dollar cost allocation.

Mr. Market also provided an attractive opportunity during the month for us to open a net new position in Johnson & Johnson (NYSE:JNJ) at $128, offering a starting forward dividend yield of almost 3%. We believe the company's shares trade at a fair value at current 15 P/E levels, as illustrated below:

Source: FASTGraphs

Johnson & Johnson is among the highest quality names on the market, being one of only two companies holding an AAA credit rating at Standard & Poor’s, combined with a 57 year-long dividend growth history. We plan to gradually add to our holdings at current levels, and would meaningfully increase our position at a 3.5% starting yield translating to a share price of ca. $110. Our target allocation in JNJ amounts to $3000 or 3% of our mid-term $100k portfolio size goal, leaving the position ample room to grow from the current ~$400 dollar cost allocation base.

Source: Seeking Alpha

Looking at our overall portfolio, cash contributions and reinvested dividends since inception are totaling $51,420 as of October 2019. The current value of the portfolio sits at $64,946, producing $2,393 in forward annual net dividend income. The portfolio consists of 34 companies, with an average forward net yield on cost of 4.65%.

Source: Author's own illustration

We also track our progress towards the mid-term milestone of a $100k dollar cost allocation. In order to achieve that goal, we have to deploy a remaining $48,580 into high-quality blue chip dividend growth companies. Considering the $1000 monthly new cash additions and reinvested dividends, this milestone is realistically achieved until 2023.

Source: Author's own illustration

I am/we are long ALB, TXN, JNJ, ABBV, OHI.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure:

We are also long all of the stocks listed in our portfolio.