The best way to become a great investor is to have principles you stand by. Conversely, it is good to understand the principles of strategies you follow.
Most people follow the 401 (k) investment philosophy. This philosophy states that you invest in low-cost mutual and index funds until retirement. Upon retirement, you sell shares to generate income using the 4% rule.
What is dividend growth investing? On the opposite end of the spectrum is dividend growth investing or DGI. DGI involves followers investing in individual dividend-paying stocks until retirement age.
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Upon reaching retirement age, dividend growth investors simply turn off automatic dividend reinvestment and create a passive income stream that goes directly into their brokerage accounts.
The difference between 401Ks and DGI is that the DGI investor doesn’t need to sell shares to generate income. Even better, their income should continue to grow along with inflation because companies raise annual dividend payments.
Today, I want to explore the four principles of dividend growth investing so we all understand how the power of compounding works. The four principles of DGI are dollar-cost averaging, dividend reinvestment, share price appreciation, and dividend raises. Let’s begin!
Dollar-cost averaging (DCA). The first principle of DGI is dollar-cost averaging (DCA), which is the strategy of investing the same amount of money into a stock, either weekly or monthly.
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Let’s say our first dividend stocks are McDonald’s (MCD), Starbucks (SBUX), and Visa (V). We could invest $5 per week in each one using an app like STASH.
Dollar-cost averaging is powerful because you purchase more shares when the stock price is low and less when the price is high. Overall, it has a net positive effect.
DCA also relieves investors of a ton of stress. You don’t have to perform a deep dive whenever you want to invest. You simply automate the process and watch your portfolio grow over time.
Dividend reinvestment. The second principle is dividend reinvestment. Dividends are a powerful part of the total gains equations.
People often forget how powerful dividends are during a bull market. This is because as the share price continues to rise, people can quickly overlook these powerful dividends.
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However, when the market moves sideways or heads down, the true potential of dividends can show itself. Holding on to an investment is much easier when it generates a return.
In a down market, share prices are dropping. If none of your stocks pay dividends, you are not generating returns.
Great dividend-paying stocks continue to pay dividends through all the stock market craziness. When you reinvest these dividends over 30 to 40 years, you get the same result as dollar-cost averaging.
If Johnson & Johnson (JNJ) pays a $5 annual dividend, you purchase more shares at a $100 share price than a $200 one. Over time, your stock will add more and more shares.
When stock prices rise, you’ll have more shares (at a lower price point) that will carry your portfolio to the next level. Imagine using this tactic for over 40 years.
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Share price appreciation. The third principle of DGI is share price appreciation. We all love to see the prices of our investments go up.
Most of us own homes that will continue to increase in value. DGI uses the same principle as home values.
When you invest in amazing DGI stocks like Procter & Gamble (PG), Carrier (CARR), and Prudential (PRU), you are investing in the company’s future profits.
As corporate profits continue to rise, so does the share price. An excellent place to find DGI stocks is with the list of dividend aristocrats.
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But you also want to consider great companies that just initiated a dividend, such as T-Mobile (TMUS), Google (GOOG), and Facebook (META).
You must also diversify your companies across different sectors and sizes. I recommend 10 to 20 stocks (I prefer at least 20).
Although you can diversify using companies like Lowe’s (LOW) and Home Depot (HD) or AT&T (T) and Verizon (VZ), they may experience the same heartaches at the same time. So, get all four!
Dividend Raises. The final principle of DGI is dividend raises. Many companies raise their dividends yearly—this will help you thrive during retirement.
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You want to increase your income every year to beat inflation. When you retire, you will turn off automatic dividend reinvestment. A good way to continue the power of compounding is to reinvest 25% of your dividends, even in retirement.
However, your DGI companies will continue to raise their dividends. These can be significant payment increases when you have a $1 or $2 million portfolio.
Let’s say we own 2,000 shares of Abbvie (ABBV), a fantastic DGI stock. At $172 per share, the value of its position would be $344,000.
Let’s look at the income it would have produced in the last five years. In 2019, it would pay you $8,560. In 2020, $9,440. In 2021, $10,400. In 2022, $11,280. In 2023, $11,840. And in 2024, $12,400.
In five years, you have almost a 50% increase in income. That’s without purchasing any more shares. If you would have reinvested 25%, your totals would have risen significantly.
Putting it all together. Abbvie’s (ABBV) share price on July 19, 2019 was $68. On July 19, 2024, it was $173.
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Not only is the stock price increasing, but also the income it produces. That is the power of compounding; that is the power of dividend growth investing.
Now, you must compare it to your own 401K strategy. The good part is that you can follow both methods at once.
You can start a DGI portfolio in a Roth IRA, where the dividends will be tax-free after age 59 ½. However, if you leave it to your kids, they must dismantle the Roth IRA over time.
A brokerage account may be best if you truly want to pass along generational wealth via dividend-paying stocks. Many kids’ fortunes come from inherited long-standing DGI stocks like Altria (MO) and Exxon Mobil (XOM).
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Conclusion. Although I prefer income investing to dividend growth investing, I still maintain a $100,000 DGI portfolio. I continue to add to this portfolio because the power of compounding is simply too incredible to pass up.
The four principles of DGI give you a great insight into how DGI can change your life. You don’t need to be a genius to become a DGI investor.
However, look deeper if you find a stock that initiates a dividend. Stocks like Facebook (META) and Google (GOOG) may become the newest member of the dividend aristocrats in 25 years.
If you get in on the ground floor, it could change your life. Dividend growth investing has changed my life by leveraging the power of compounding in my favor. Good Luck!
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Disclosure: I am not a financial advisor or money manager, and any knowledge is given as guidance and not direct actionable investment advice. I am an Amazon Affiliate. Please research any investment vehicles that are being considered. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article. All Right Reserved Military Family Investing
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