Forget the 4% SWR, or Any SWR - It's All About Income

[Eudo]

That would explain why no one addressed it.  Weird, because I have no connection or login for Credit Suisse.  Let's try: http://www.google.com/url?sa=t&rct=j&q=credit%20suisse%20adding%20value%20or%20destroying%20value%3F&source=web&cd=1&ved=0CCgQFjAA&url=https%3A%2F%2Fdoc.research-and-analytics.csfb.com%2FdocView%3Fsourceid%3Dem%26document_id%3Dx454556%26serialid%3De45HdNbTyfzxqJiuVkQbC5cPZZDE1SdAOSK1XWRCbxs%3D&ei=iuJFU4S3KISdyQHvvoHwAQ&usg=AFQjCNFCUHmca-Qnzwc9RH5K1jP42Cb_eQ&bvm=bv.64507335,d.aWc

That actually is a great article. They did exactly what I've wanted to do for a while. I've looked at individual companies and anecdotally found that it seemed that companies that buy back a lot of shares more often than not are just trying to undo the dilution from large option exercises by executives, and since executives exercise their options when stocks are high, these companies systematically buy shares whenever the price is high. It's good to have a more systematic study that confirms it. And that chart is killer. Huge share repurchases in 2007 that dry up as soon as the market tanks. Meanwhile, dividend payments are like a machine that just keeps chugging along.

The one point I wish they had made was that management often has a financial incentive not to pay out dividends. At some point folks got it in their heads that if you give executives a lot of stock options, then their interests are aligned with shareholders. But options only benefit from a rise in share price, not from dividend payments. So if you have money burning a hole in your pocket, the last thing you want to do is pay dividends with it. Far better to buy back shares, even at outrageous prices.

[RyanAtTanagra]

Sorry for digging up an old thread but this is the best one I've found that addresses some questions that have been bouncing around in my head.  It seems to have been left unresolved though, so hoping some of you are up for more arguing on the subject :-)  Particularly warfreak2 and the like, as right now I'm leaning towards Eudo's side and am looking for counter points.

What I keep coming back to is how a dividend based portfolio for income (not reinvesting dividends for appreciation) effects success rate compared to an s&p index and using a % SWR.  I'm having a hard time finding comparisons other than the one Eudo did earlier in the thread using a single dividend-oriented fund with a single time period.  The calculators don't seem to allow you to run comparisons on all 30 year periods using different indexes, unless I'm missing something.

I do occasionally hear anecdotal accounts of things like 'during the 08/09 crash my dividends dropped 10% while stock prices dropped 50%' which is encouraging, but if it's sacrificing growth during the good times then it may cancel out, which is why I'm mostly interested in portfolio success/failure rates over all 30-year spans.

As I'm starting to look into dividend investing, other than being a hobby I may enjoy (haven't gotten far enough to decide yet), it's a lot more work than just doing a 4% SWR.  If it means for a safer portfolio I'll continue down the path, but if not then being rather lazy and would prefer to avoid the extra effort if there's no/little point to it ;-)

So I guess my main question is, is anyone aware of resources for how dividends effect portfolio success rates?  Or would I need to build a spreadsheet for that myself (which may or may not be beyond my ability)?

[MDM]

So I guess my main question is, is anyone aware of resources for how dividends effect portfolio success rates?  Or would I need to build a spreadsheet for that myself (which may or may not be beyond my ability)?

I believe the Trinity et al. studies used generic "stock" and "bond" returns.  The stock returns would have been part price appreciation and part dividend reinvestment.

A lot of the back-and-forth in this thread is based on what one believes about dividends: if you believe that a company never cuts its dividend then it will be "safer" than a company that never pays dividends (all other things being equal, which of course they never are).

[RyanAtTanagra]

A lot of the back-and-forth in this thread is based on what one believes about dividends: if you believe that a company never cuts its dividend then it will be "safer" than a company that never pays dividends (all other things being equal, which of course they never are).

Right, but even when companies do cut dividends, they as a whole tend to be more stable than stock prices (from what I've seen, or is that wrong?), which for income (not talking about building the stash), stability can be important, but I'm curious how important (safe) that really is.

I know picking companies that don't cut dividends, and rather finding ones that always grow them, is what dividend growth investing is all about, but tracking over multiple 30-year periods the success rate of hand-pick stocks that will change as better options become available would be just about impossible.  Using dividend-focused indexes would be a reasonable trade-off and at least give a trend of how investing for, and living off, dividends effects success rate.

[skyrefuge]

So I guess my main question is, is anyone aware of resources for how dividends effect portfolio success rates?  Or would I need to build a spreadsheet for that myself (which may or may not be beyond my ability)?

First, it's incorrect to set up a battle between "dividends" and "4% SWR". They are not opposing strategies. That's because "4% SWR" also involves dividends. 4% is the Safe Withdrawal Rate from a historical portfolio of both dividend and non-dividend paying stocks. Even if your dividend income exceeds your expenses, you still need to decide "can I spend all that dividend income, or do I need to reinvest some of it to keep from running out of money?" And the SWR research says: no, it has not always been safe to spend all your dividends.

Otherwise, why not just put your whole portfolio in one of the 350 stocks currently yielding more than 4% (or an index of all of them) and call it a day as you luxuriate in the >30% yield thrown off by some of them?

Given today's low dividend yields, we're tempted to believe that "4% SWR" tells us we can spend all our dividends, and then generate the rest of our cashflow by selling shares. But in reality, it's also a ceiling on how much of our dividend income we can spend, in cases where dividend yield is greater than 4%.

Between 1906 and 1954, S&P 500 dividend yield averaged 5.67%. Yet for the 19 30-year cycles in that period, even if we don't spend all of the dividends (starting with a 5% WR), 47% of them fail.


I posted another example in this other thread, which I'll repost here:
======================
Dividend payouts may be more volatile than you realize. In the US, say you owned enough shares of VTINX (S&P 500 index fund) in 2007 to produce your necessary income of $1000 per month. Here's how that income would have changed over the next 6 years:

2007: $1000
2008: $1008
2009: $847
2010: $791
2011: $903
2012: $1088
2013: $1189

"$791" sure doesn't equal "about $1000", at least not in my mind.

In order to have generated that $1000/month income from dividends in 2007, you would have needed a stash of ~$630,000.

In contrast, if you had started with only $300,000 and simply withdrawn/sold 4% each year, that would have been sufficient to generate a much-more-steady $1000/month income for the entire time. And while your net worth would have certainly been volatile over that period, your balance at the end of 2013 would have been $341,846, or 14% greater than when you started.
======================

I'm not aware of any other resources out there to compare portfolio success rates on dividend-focused portfolios. It was hard enough to come up with the limited stuff I came up with in this post. It almost makes you think, if no one has compiled the data to show the superiority of dividend-focused portfolios, maybe that's because no such data exists? :-)

[arebelspy]

There's no such thing as a free lunch.

Understand where dividends are coming from (hint: profits the company makes from selling goods/services) and ask yourself what is the fundamental difference in the profits collected by companies paying them and not (hint: none - a company that profits $Y and distributes some as a dividend is the same as a company that profits $Y and doesn't have a dividend, in terms of the amount of money they made).

If a company is valued based on its assets, earnings, etc. then a company that retains the money should go up higher than the money that distributes the dividends (by the amount of the dividend).

Thus you could sell that company and end up in the same place.

There's no reason to think a company with dividends will make more money, and if they don't make more money, why would they be worth more?

The dividends is the company giving you some of the profit, and then it's worth less that amount, and the valuation follows accordingly.  The non-divided company is still worth that amount, and it's valued accordingly.

Example:
Company A distributes a 3% dividend and goes up 7%.  CAGR: 10%
Company B doesn't have a dividend, and goes up 10%.  CAGR: 10%

Tell me, why do you think company A would go up more than company B, just because it distributes dividends?

It won't.

So by focusing on dividend companies, you're not gaining any benefits, but you may have some drawbacks (like not controlling the distribution of your income, worse tax situation, etc.).

[RyanAtTanagra]

Tell me, why do you think company A would go up more than company B, just because it distributes dividends?

I don't, that's why I specified I'm not talking about growing the stash, but spending it.  I couldn't care less about dividends while I'm still working.  My concern is around a more stable stream of income once I FIRE.  I know there's no free lunch, dividend investing is way more work ;-)  I'm just trying to figure out if it's worth it.

======================
Dividend payouts may be more volatile than you realize. In the US, say you owned enough shares of VTINX (S&P 500 index fund) in 2007 to produce your necessary income of $1000 per month. Here's how that income would have changed over the next 6 years:

2007: $1000
2008: $1008
2009: $847
2010: $791
2011: $903
2012: $1088
2013: $1189

"$791" sure doesn't equal "about $1000", at least not in my mind.

In order to have generated that $1000/month income from dividends in 2007, you would have needed a stash of ~$630,000.

In contrast, if you had started with only $300,000 and simply withdrawn/sold 4% each year, that would have been sufficient to generate a much-more-steady $1000/month income for the entire time. And while your net worth would have certainly been volatile over that period, your balance at the end of 2013 would have been $341,846, or 14% greater than when you started.

Not quite the comparison I was looking for, but it did bring up another point I hadn't thought about.  Living off dividend income means living on a variable income stream.  If the market tanks again and dividends drop say 10%, you have to adjust your spending to account for that instead of steadfastly increasing it by 3% again that year.  I imagine this would be a big part of why it MAY be more successful than the blind 4%-inflation-adjusted-every-year models.  However, dropping your spending even a little bit in down years can be accounted for in cfiresim and it very significantly increases the success rate.

Thanks for the input, the picture is becoming clearer.

[arebelspy]

Tell me, why do you think company A would go up more than company B, just because it distributes dividends?

I don't, that's why I specified I'm not talking about growing the stash, but spending it.  I couldn't care less about dividends while I'm still working.  My concern is around a more stable stream of income once I FIRE.  I know there's no free lunch, dividend investing is way more work ;-)  I'm just trying to figure out if it's worth it.

Okay, awesome.  So you realize the companies should grow the same, and that means when spending it, it's six of one, half dozen of the other.

Whether you have to sell shares or you get a dividend, the company's total return is the same, so you won't end up ahead at all while spending it if you receive dividends.

Using our same company A/B scenario from above:
Company A grows 7%, distributes 3% dividend.  You live on 3% of your stache, so the dividend covers your spending, and your stache grows 7%.

Company B grows 10%, have no dividend, so you sell 3% to live on, and your stache grows 7%.

You end up the same.  If you recognize that there's no reason for a company distributing dividends to grow more than one that doesn't, then you selling shares is the exact same as getting a dividend.

So your concern about "spending" the stache works out the same as someone growing it: either way you're cutting into the company's growth, it's just are you cutting into it by selling shares, or are they cutting into it by giving you the dividend.  It nets out the same.

[RyanAtTanagra]

So your concern about "spending" the stache works out the same as someone growing it: either way you're cutting into the company's growth, it's just are you cutting into it by selling shares, or are they cutting into it by giving you the dividend.  It nets out the same.

But that's not so clear in down markets.  It works out the same when things are going up, but what happens when a companies stock drops say 10% this year, but the dividend stays the same or still goes up?  In the first case you lose 10% plus spend 4%, so next year it has to rebound 14% just to get back to where you were (plus another 4% so you can withdrawal again).  The whole backwards dollar cost averaging thing.  In the latter case, the share price recovering doesn't matter.  I guess you could make the argument that paying out the dividend reduced the ability for the company to recover.  But for that we'd have to assume that stocks always drop for a rational reason and then we end up in an efficient market debate :-)

[arebelspy]

I guess you could make the argument that paying out the dividend reduced the ability for the company to recover.  But for that we'd have to assume that stocks always drop for a rational reason and then we end up in an efficient market debate :-)

You don't have to assume that they drop for a rational reason, but just that the drops in company A and B are approximately the same (i.e. a dividend stock doesn't drop less than a non-dividend one, just because it gives out dividends).  I think this is a fairly reasonable assumption, in broad strokes.

Either way the best thing to do in down markets is be flexible.

Owning dividend stocks that may well underperform long term (due to a flight to dividend stocks causing company A to be OVER valued compared to company B) doesn't make sense, to me.  It's a type of trying to outguess the market, which is a fool's game.  Thinking your dividend stocks will perform better just because they output dividends is irrational.  And if you accept that they won't perform better, why are you investing in them, given the potential downsides?

[Breaker]

WOW!! This discussion has gotten pretty deep and I'm going to have to spend some time reviewing it.

As for searching for previous threads on the Forum I don't find it very helpful.  The answers it comes up with often don't include threads that I have read and know are there somewhere.

On the matter at hand.  I like the idea of paying attention to income stream.  I am getting income from a very small Gov't pension, a rental, and dividends if needed.  I will also receive SS.  Two of these streams are/will be pretty stable, Pension and SS.  The rent and dividends may fluctuate a lot.  I have no one that I have to take care of after I die so that may be different from most on the Forum.  For me it is all about income in retirement. 

[RyanAtTanagra]

Either way the best thing to do in down markets is be flexible.

Owning dividend stocks that may well underperform long term (due to a flight to dividend stocks causing company A to be OVER valued compared to company B) doesn't make sense, to me.  It's a type of trying to outguess the market, which is a fool's game.  Thinking your dividend stocks will perform better just because they output dividends is irrational.  And if you accept that they won't perform better, why are you investing in them, given the potential downsides?

I don't think they'll under or over perform with respect to stock price.  What I keep circling back to is reverse dollar cost averaging of a standard 4% (or whatever) withdrawal portfolio when the market is declining.  If dividend payouts are more stable than stock prices (has this been shown?  I feel like it has but I don't have any references), then does that help your portfolio ride out storms?  If so does it come at a detriment during good times?

Sorry for beating a dead horse, just trying to fully understand and hash it out.

[arebelspy]

Either way the best thing to do in down markets is be flexible.

Owning dividend stocks that may well underperform long term (due to a flight to dividend stocks causing company A to be OVER valued compared to company B) doesn't make sense, to me.  It's a type of trying to outguess the market, which is a fool's game.  Thinking your dividend stocks will perform better just because they output dividends is irrational.  And if you accept that they won't perform better, why are you investing in them, given the potential downsides?

I don't think they'll under or over perform with respect to stock price.  What I keep circling back to is reverse dollar cost averaging of a standard 4% (or whatever) withdrawal portfolio when the market is declining.  If dividend payouts are more stable than stock prices (has this been shown?  I feel like it has but I don't have any references), then does that help your portfolio ride out storms?  If so does it come at a detriment during good times?

Sorry for beating a dead horse, just trying to fully understand and hash it out.

Again, there's no such thing as a free lunch.  :)

[RyanAtTanagra]

Again, there's no such thing as a free lunch.  :)

Eh, I could respond to that by saying of course not, dividend growth investing is more work than just buying an index fund and withdrawing 4%, which is why you get better results (with regard to portfolio success rates over multiple 30-year terms).  Not saying I believe that, I'm just trying to decide if it's the case or not.

[arebelspy]

Again, there's no such thing as a free lunch.  :)

Eh, I could respond to that by saying of course not, dividend growth investing is more work than just buying an index fund and withdrawing 4%, which is why you get better results (with regard to portfolio success rates over multiple 30-year terms).  Not saying I believe that, I'm just trying to decide if it's the case or not.

It doesn't have to do with the work involved, but the total return.