Creating a passive income with dividend investing
Like many other creative professionals, I dream of being able to commit 100% to an exciting new project without having to necessarily worry about its profitability here and now. To achieve this dream I need some kind of passive income to rely on.
In my view there are two ways of going about this:
Creating a product or service popular enough to generate a stream of reoccurring payments or royalties.
Creating a dividend-paying portfolio.
I have already had limited success with the first - I have a board game from 2018: Tyvenes By (City of Thieves) on the shelves of Danish retailers, paying out quarterly royalties from our publisher. While this might sound great, our sales are now already very limited and evidently requires a lot of work to keep the game from fading into obscurity.
The safer way to go about it is investing in dividend-paying companies and so, that is what I have decided. Late last year I opened a dedicated portfolio in my brokerage for high-yielding dividend investments only. I have spent almost the entirety of 2020 heavily researching strategies, do’s, and dont’s along with analyzing specific positions to purchase. The following condenses what knowledge I have gathered and how I have decided to invest.
Do's & Don'ts
Chasing yield can be tempting, but do not do it. It's not a good long-term strategy.
When looking into dividend-paying stocks, it is not too hard to find very high-yielding stocks. While this is not a sign of danger in itself, it not usually a sign to be on the lookout. If a dividend-paying company quickly loses value the yield can in many cases jump up anywhere from a few percentage points to all the way into double digits. This happens because the dollar per share dividend stays the same and it's important not to chase after these companies out of greed. In more cases than not, it is simply not sustainable and the company will have to decrease or eventually suspend its dividend entirely.
Instead, you should be looking for companies who have steadily increased their dividend over time - That way you know they prioritize their dividend even through the hardest of times and that you'll likely see year by year increases in your payout even if your positions slightly underperform the market.
My strategy - Kings & Aristocrats
I have set a few rules for myself for this dedicated dividend portfolio:
I aim to never have to sell a single position in my lifetime.
I do not want to over-diversify. My portfolio will consist of a maximum of 10 positions.
I will reinvest 100% of my dividends until I have reached my goal.
The first rule forces me to truly commit to a purchase - Making me look into every little detail, think about the future and present of the company, think about its competitors, and challenges and look closely at the balance sheet. So far I have taken the safe road and only invested in the so-called Dividend Kings & Aristocrats - Companies in the S&P500 who have increased their dividend for a minimum of 50 or 25 years respectively. Have only made a single exception to this rule for a position that had been doing this for a mere 24 years - They have since reached the threshold of 25 years and are now officially an Aristocrat.
A Dividend King has increased its dividend for a minimum of 50 years - Imagine that!
Limiting myself to a maximum of 10 options is my way of making sure I focus on only the best companies in the market and allowing me to take advantage of compound interest. Instead of betting on new positions, I can double down on the ones I already own. Should I ever end up with 10 positions and an incredible opportunity arise I imagine that to be my only loophole out of the first rule I set for myself. But I really do not expect that to happen - And even building up 10 positions is going to take a while in the first place.
Lastly, I plan on reinvesting every single penny I gain from my dividends until I eventually reach the threshold I am aiming for. That is, of course, the day that I can sustain a comfortable life entirely from passive income. This strategy is called DRIP (dividend reinvestment plan) and many brokerages allow you to set this up automatically. If you are able, you should definitely do that - I, unfortunately, do not have access to this feature and will instead have to bulk up my dividends and reinvest them along with other investments or contributions in order to keep my purchase fees reasonable.
My current & future picks
Screenshot from an app called 'Stock Events' I use to track my current and future dividends. Now I don't know why they put a US dollar sign ($) in front of every number, but it is actually in DKK.
I currently hold five positions in my dividend portfolio. I average around a 5% dividend yield, which is certainly a little on the high side - It will likely lower a bit as I continue to build out my positions (more on that in future picks), but at the same time I am trying to maximize this number within reason.
First up: AT&T (T)
By conventional metrics, this is by far my riskiest position in this portfolio. Their balance sheet is not in good shape, following a few very underperforming acquisitions and the merger of DirecTV in 2015. Its valuation and share price plummeted in March during the pandemic and have not yet recovered. I did however seem to pick it up at its lowest and I have been glad to see them betting hard on their new streaming service, HBO Max. Their yield sits at a sky-high 7,21% - a dangerous sign for most stocks, including this one, but AT&T is a Dividend Aristocrat with a very respectable 35 years of increasing their dividend and that makes me believe in their commitment to this. I happen to work at a telecommunications & cable TV provider alongside studying at University and I feel like I have a pretty good understanding of what it will take for these types of companies to adapt and overcome the challenges the industry faces right now.
A real winner: AbbVie (ABBV)
AbbVie is a well-established drug company and a leader in immunology and oncology. Like AT&T they are a Dividend Aristocrat though actually very close to becoming a King with their 47 years of increasing dividends. They developed a very popular anti-inflammatory drug called Humira, which is by far their most important asset currently and represents nearly half of their current profits. The one challenge the company is facing is that patents for this very drug are starting to expire. They will need something else to fill the gap, but AbbVie has shown will to do so and recently acquired Allergan - The maker of Botox. AbbVie sits at a dividend yield of 4,67% after announcing a pretty significant increase of this in January of this year - Right in line with what I aim for and my position is already up almost 20% since I bought in.
Real estate: Federal Realty Investment Trust (FRT)
Federal Realty is what's called a REIT - A type of company I first found out about during this time of research. It is a specific company structure for companies that own income-generating real estate in the US. In exchange for certain tax benefits they are obligated to pay out 90% of their income back to investors, This makes them attractive picks for dividend investing though usually not a great one for expected growth. For me, they are a recovery play as they all suffered heavily in March. FRT is focused on shopping center real estate and owns over a hundred properties. Their dividend yield sits at 4,88% and has seen a value increase of more than 7% since I picked them up. They are the only Dividend King I own so far with an insane 53 years of consecutive years of dividend increases.
Monthly dividends: Realty Income (O)
The second REIT that I own is called Realty Income. They own around 6500 private properties in the US and have entered industrial, office, manufacturing, and distribution properties as well. Realty Income also goes by the name of "The Monthly Dividend Company" as they pioneered the act of paying out dividends on a monthly basis. When I first looked at investing in a dividend company, this very aspect seemed extremely interesting to me - especially when thinking in terms of it eventually becoming a salary for me one day. I have since realized that it is easier than it seems to be to spread out your dividends and less important too, as you could simply let your dividends bulk for a while and later start withdrawing on a monthly basis - but it still is a very cool and unique aspect of this REIT. This is the position I mentioned that this year finally reached its status of Aristocrat. Realty Income’s dividend sits at 4,76% and is the only position that I've been down on (approximate 10%) - But that's OK because I plan on buying more ;).
Finally: Danske Invest Denmark Index (DKIDKIX)
Now, I forgive you for not knowing this one. It is not a single company, but rather an investment fund for some of my favorite Danish large-cap companies. They only pay out dividends once a year and the yield is not specifically listed anywhere - But it should fall right in line with that 3 - 5 % I am looking for. It is a passively managed fund with a low yearly cost of only 0,32% and some of it is biggest positions include DSV (DSV), Ørsted (ORSTED), Novo Nordisk (NOVO B), Coloplast (COLO B), Vestas (VWS) and Genmab (GMAB). This one is unique in my portfolio because it's part of a service my brokerage offers allowing me to invest in hand-picked funds on a monthly basis without having to pay any kind of purchase fees. Given that I started University last year and my income significantly decreased this has been a godsend to me over the last few months. I will continue to grow this specific fund over time and it will very likely end up being my biggest position.
Future picks:
There are a few companies on my shortlist. Some of them I plan on picking up this year and some are still only being considered. One that I am definitely picking up this year is 3M (MMM). They are THE dividend player in my eyes and one of the truly well-established Kings. They've been through any financial crisis or stock panic you can think of and have still managed to increase their yearly dividend for 62 - SIXTY-TWO years. Also here's a fun fact: 3M are behind the sticky note - Any designer or scrum master's weapon of choice. Pretty cool right?
I have looked closely at JP Morgan Chase (JPM) - the only bank I would ever consider purchasing. They have an unbeatable reputation and are one of the very few American banks that are aware of the challenge they are facing from various FinTech competitors and seem ready to acquire the interesting ones and beat the rest.
Both of these hold a slightly lower dividend yield of 3.45% and 2.67% respectively. That would eventually lower the average yield of my portfolio however I really would not mind this too much - it is all about picking healthy long-term dividend positions.
Finishing up the list, other potential stock picks are Walgreens Boots Alliance (WBA), Telenor (TEL), Fortum (FORTUM), and Johnson & Johnson (JNJ), but none of these are quite as serious contenders as of yet.
As REITs go, what is great about these (besides the awesome dividend yield) is that they can be a good way to diversify in and within themselves. While they are all of course real estate in some way, there are so many different kinds of property and some very interesting different management styles. On top of my list currently, is STORE Capital (STOR) especially attributed to their CEO, Christopher Volk, a very respectable and new-thinking leader. Digital Realty (DLR) is a global data center property owner and operator and a really cool mix of real estate and betting on cloud/data growth.
This is a long read, I know and I understand if you just scrolled through, but I hope I managed to convey my strategies and hopefully gave you a few tips on either how to start or get going with creating a dividend fund for your dreams of catching FIRE.
Disclaimer: I am not a financial advisor, the opinions expressed in this article are entirely my own – always invest at your own risk.
