Along with the popularity of dividend growth increasing the past few years, there have been a number of critics coming out who disagree with the strategy. They have many reasons and some of them may seem valid. However, I feel that most of these arguments against dividend growth arise from not fully understand the strategy. Many times the critics of dividend growth are quick to point out any flaws in the strategy while at the same time being slow to offer up any alternative that would be a better investment strategy.
The Arguments
Today I wanted to take a look at some of the arguments presented against dividend growth investors and offer up why I think they are wrong. The most common arguments I have seen are:
Dividend growth investors are only concerned about companies consistently raising dividends.
Most of the popular dividend growth companies have seen huge capital gains over the past decade and therefore won’t grow much going forward.
Dividend growth investors buy stocks regardless of current price as long as they have been growing the dividend.
Dividend growth investors are only concerned about dividend income and don’t care about anything else (capital gains or losses).
There is a dividend growth stock bubble and you can’t get any good buys right now.
Let’s take a look at each of the above arguments against dividend growth investing and point out why I believe they are wrong.
Only Concerned about Consistently Rising Dividends
Yes it is true that the focus of a dividend growth investing strategy is annually increasing dividends. However, this is not the only thing good dividend growth investors are looking at when making investing decisions. Dividend growth investors get their ideas of what companies would be good candidates for an investment by looking at lists of companies with a history of dividend growth. That is the starting point. That is the main criteria to be included in a dividend growth portfolio. However, dividend growth alone isn’t the reason a buy decision is made. Dividend growth investors should perform a complete stock analysis before purchasing any stock. Not only should investors look at dividend growth history but they should also be looking at earnings and sales history, debt levels and current market valuations. Increasing dividends is most certainly not the only criteria for dividend growth investors.
Dividend Growth Companies Won’t Offer Large Capital Gains in the Future
There are a few reasons I disagree with this argument. First and foremost is the fact that large capital gains aren’t the main goal of dividend growth investors. Capital gains are certainly nice, but the main goal of dividend growth investors is to build a portfolio of solid dividend paying companies that will pay out enough dividend income to cover the investor’s living expenses. Capital gains are a nice benefit of dividend growth investing but not the main focus.
Also the argument is that these companies have experienced large amounts of growth and capital gains in the past and this cannot continue in the future. I don’t see the reason why not. If a company is continuing to grow their earnings then the stock price will continue to grow. Now many dividend growth companies are more established blue chips that have transitioned from the high growth stage of a companies life towards the more stable slow growth raking in the cash and distributing it to shareholders in the form of dividends phase. So capital gains most likely won’t be as large as when the companies were in their growth stage but dividend growth companies will still experience growth and therefore capital appreciation.
Last, I disagree with this argument because I don’t feel like large capital gains should be the goal of any investor. When we are chasing the larger than normal capital gains is when we as investors get in trouble. Investors chasing large capital gains will take on more risk. More risk will inevitably lead to more losses and usually in the end this strategy does not fare well for investors. I would recommend investors aim more for average capital gains. Less risk is needed and average returns in the stock market over a lifetime has the ability to make investors extremely wealthy. Along the way while experience average price appreciation, dividend growth investors can collect, spend and reinvest their dividend checks as they want.
Dividend Growth Investors Buy Regardless of Current Prices
This is a misunderstanding of the dividend growth strategy. Dividend growth investors should be evaluating the value of every company before making a stock purchase. The absolute most important thing with a stock purchase is the original purchase price. A great company can be a bad investment if you pay too much for it and an average company can turn out to be a great company if you buy it at rock bottom prices. There may be some investors out there who only look for dividend growth and buy those companies without taking current valuation into account. If they are using a dollar cost averaging strategy then this is alright. If they are not then they are merely being foolish investors. Foolish investors will earn foolish results no matter what investing strategy they use.
Dividend Growth Investors are Only Concerned about Dividend Income and Not Capital Gains/Losses
My first response to this is why should this matter? My goal is to create a stream of dividend income to live off of. If that is my goal and I never plan on selling my stocks then stock appreciation or depreciation is of little importance. Why do critics have a problem if my main goal is dividend income rather than capital gains?
My next response is that dividend growth investors do in fact pay attention to their capital gains and losses. Most certainly we are trying to minimize losses by investing in wonderful companies and keeping an eye on their financial performance over time. By paying attention to a companies ability to increase earnings, sales revenues, decrease debt and pay out more in dividends, investors are keeping an eye for any warning signs. If warning signs present themselves, dividend growth investors will sell in order to try to minimize losses.
Saying dividend growth investors only care about dividend income is on the surface correct because that is our main goal. However it is mostly wrong because all investors should be trying to reduce their losses and increase gains no matter what strategy they are implementing.
There is a Dividend Growth Bubble and No Good Buys Right Now
It is true stock prices are going up currently. Stocks are valued higher now than they were a couple years ago. Along with the popularity of dividend growth investing, more money has flown into dividend growth stocks which has caused valuations to rise. And some dividend growth stocks are probably at a valuation where I would be hesitant to make a purchase. However, this does not mean that every dividend growth stock is currently valued too high. I recently bought two stocks that I felt were under or fair valued. There were others I could have considered. It is important to look at individual companies valuations rather than just saying the whole group is in a bubble and there are no good opportunities out there.
A bubble doesn’t necessarily mean an investing strategy is bad. It means smart investors would be wise to hold their cash and wait for better opportunities. If we are experiencing a bubble, which I believe we most certainly are not, then soon it will pop. Those dividend investors with cash in hand will be ready to take advantage and load up on dividend growth stocks still using the same strategy.
Conclusion
Most of these arguments come from a misunderstanding of the dividend growth strategy and dividend growth investors. The idea that dividend growth investors only look at dividend growth and take nothing else into consideration when investing is absolutely ridiculous. While dividend growth and dividend income are the most important aspects of the strategy, they are definitely not the only components. Dividend growth investing is not as easy as just purchase shares of companies with long histories of dividend growth. Wise investors will continue to do a thorough analysis before making an investing decisions.
Dividend growth investing is one of many strategies investors can implement. I believe it is a good strategy and I will be happy having used it in the long term. It may not be the best strategy for everyone. Other strategies may also be used to achieve investing success. The idea is to choose which strategy works best for your temperament and give it a go. Quit worrying about what other investors are doing. If there strategy works for them then that is good for them. Dividend growth works for me.
What arguments against dividend growth investing have you heard? Do you believe it is a good strategy for investors? Share your thoughts in the comments below!
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