Do you know who missed out on great growth stocks like Tesla, Apple, Netflix, Google, Facebook, and more over the last 10+ years? Dividend stock investors. For younger investors (<40), I believe it’s better to invest mostly in growth stocks over dividend stocks. With growth stocks, you increase your chances of accumulating more capital quickly.
You’d rather invest in a company that is providing more capital appreciation while you are working. After all, earning dividend income is less important when you have job income. Instead, building as big of a financial nut as possible with growth stocks is more important.
However, once you are retired or close to retiring, you can shift toward dividend stocks for income. You shouldn’t have as high of a tax bill in retirement due to a lack of W2 income. Further, dividend stocks are also relatively less volatile given their stronger balance sheets.
Dividend stock investing is a great source of passive income. In fact, I rank dividend stocks as a top source of passive income. The problem is, with dividend yields relatively low at 1-3% you need a lot of capital to generate any sort of meaningful income. Further, as a minority investor, there’s no way to improve the dividend payout ratio.
Even if you have a $1,000,000 dividend stock portfolio yielding 2% that’s only $20,000 a year in dividend income. Remember, the safest withdrawal rate in retirement does not touch principal. Further, you must ask yourself whether such yields are worth the investment risk.
Growth Stocks Over Dividend Stocks
If you’re relatively young, say under 40 years old, investing the majority of your equity exposure in dividend-yielding stocks is a suboptimal investment strategy. It’s much better to invest in growth stocks over dividend stocks.
If you decided to invest in dividend stocks while you are young, you’ll be hoping for filet mignon for decades while you eat Hamburger Helper in the meantime. When you reach your desired age for retirement, you might just be asking yourself, “Where the hell is the feast?“
Out of the few multi-bagger return stocks I’ve had over the past 20 years, none of them have been dividend stocks. Over time, dividend stocks will provide healthy returns. But if you are like me, you’d rather build your fortune sooner rather than later.
If I’m going to bother taking risk in the stock markets as a minority investor facing countless unknown endogenous and exogenous variables, I’m not playing for crumbs. When things turn south, everything turns south. Therefore, I want to be rewarded with higher potential capital appreciation.
Just know that when there is a downturn or a surge in interest rates, growth stocks tend to get pummeled much more than dividend stocks. Therefore, as a growth investor, you need to be able to withstand higher rates of volatility.
Fundamentals Of Dividend-Paying Companies
The main reason companies pay dividends is because management cannot find better growth opportunities within its own company to invest its retained earnings.
The other main reason management can’t find better acquisition opportunities with its cash. Hence, management returns excess earnings to shareholders in the form of dividends or share buybacks.
If a company pays a dividend equivalent to a 2% yield, management is essentially telling investors they can’t find better investments within the company that will return greater than 2%.
Pretend you are Elon Musk, CEO of Tesla Motors (TSLA), a growth company that pays no dividends. Do you think Elon is going to start paying a dividend with its profits instead of plowing money back into research & development for new models with longer battery lives? Of course not!
It would be absolutely pathetic if Elon Musk could not beat a 2% return on its capital. Tesla Motors motors went public in mid-2010 and has been one of the best growth stocks of all-time.
Thank goodness Tesla did not pay dividends, otherwise, the company may have gone bankrupt. Raising debt and reinvesting cash flow back into the company is what made Tesla a successful growth story.
Dividend Stock Example
Now let’s take a look at a telecom company like AT&T (T) which has the largest wireless network in America. Mobile phone penetration is over 88% in America according to Pew Research. AT&T also has the largest subscriber base in the industry.
The opportunity for accelerating growth is low due to the already high penetration rate. However, the cash flow generation is high since AT&T is like a utility that mints subscriber money in an oligopoly fashion. As a result of strong cash flow and no better investment alternatives, AT&T pays a fat dividend of ~$2/share, equivalent to a 7% dividend yield at today’s stock price.
Just look at the comparison between Tesla Motor’s share price in blue and AT&T’s share price in green and there is no comparison. You can’t even tell AT&T is in the chart. Over the past five years, AT&T is down 22.37%. Meanwhile, Tesla is up 2,340%. Which would you choose?
I’m a shareholder in both stocks and I regret buying AT&T for its dividends.
Collecting dividends is nice when you have a big portfolio and are near retirement. However, trying to grow wealth quicker through dividend stocks is a suboptimal decision.
A Misconception About Dividends
One of the main misconceptions about owning dividend stocks is that the dividend is free money. A dividend is not free money. Paying a dividend lowers the amount of cash on a company’s balance sheet, which in turn, lowers the equity value of a company.
The only reason why a dividend stock tends to rebound after paying its quarterly or annual dividend is due to expectations. If a company has a history of paying a dividend, then the stock tends not to decline by the amount of dividend paid. Expectations are high that a company like Coca Cola will continue to generate enough cash flow to pay another dividend like it has for decades.
If the amount of growth cannot overcome the amount of value lost from a dividend over time, a company will likely decline in value. If you happen to invest in a company that is not growing and is cutting its dividend payout, then you’ve found yourself a real dud.
Growth Stocks Have Life Cycles Too
One of the greatest growth stocks in history is Microsoft (MSFT). However, even growth stocks like Microsoft can’t always go up forever. Between 2000 – 2016, Microsoft’s stock went nowhere. Thankfully for shareholders, a new CEO revitalized the company and took advantage of the cloud.
If you were a young lad who decided to buy dividend stocks in the 1980s instead of Microsoft, you underperformed.
However, by 2003, Microsoft recognized that its Windows platform was saturated given it had a monopoly. Meanwhile, PC growth was stalling out too. Therefore, they started paying a dividend on January 17, 2003 because the company couldn’t find a better use of its cash.
As a dividend stock, Microsoft was not bad with a 2% – 3% dividend yield for about a decade. The problem when you get big is that its harder to grow as fast anymore. Just look at dividend stock, IBM, which has essentially gone nowhere since 1999.
Be aware of company life cycles. Not every company can evolve to take advantage of new opportunities, like Microsoft did.
How many companies did we know 10 years ago which are no longer around today due to competition? Many failed to innovate. Some faced massive disruptions in its business. Tower Records, WorldCom, Circuit City, American Home Mortgage, Enron, Lehman Brothers, ATA Airlines, The Sharper Image, Washington Mutual, Ziff Davis, Hostess Brands and Hollywood Video are all gone!
This is why you cannot blatantly buy and hold a stock forever. You’ve got to stay on top of your investments at least once a year.
Dividend Investors Should Pay Closer Attention To Interest Rates
In a rising interest rate environment, dividend-yielding stocks, REITs, and bonds tend to underperform the broader market.
In a declining interest rate environment, as long as dividend-paying companies are continuing to generate good cash flow and maintain or increase their dividend payout ratio, they will be seen more favorably. Dividend-yielding companies look relatively more attractive as interest rates decline.
Currently, we are in a low interest rate environment. Low interest rates will likely be here to stay for years as the Fed promised to be overly accommodative until it sees inflation above 2% for a prolonged period of time. Inflation is not the issue here. Unemployment is.
As a result, blue-chip dividend stocks should do relatively well in a lower interest rate environment. However, look how much better growth stocks have done.
When interest rates are low, companies can borrow more debt more cheaply. If a growth company can borrow debt at 2% and invest the money to grow its business by 10%, a growth company will outperform a dividend company.
In a low interest rate environment, investors may wonder about management’s acumen of continuing to pay a high dividend yield when they don’t have to. Once again, growth stocks win.
“Dividend Growth Stocks” Is A Misnomer
Some people like to think they are investing in “dividend growth stocks.” Sadly, this is unlikely to be true. The words “dividend growth stock” are an oxymoron. The larger a company’s dividend grows the more it means management cannot find better use of its cash.
Again, management is trying to optimize the best use of capital. Since capital is limited, over the long term, a company can’t pay more in dividends if it finds better growth opportunities elsewhere. Sure, dividend stocks can certainly grow, as many have. But they don’t perform nearly as well as growth stocks during a bull market.
Everything is relative in finance. A “dividend growth” investor may see 8% profit growth in one year as very enticing. However, a growth stock investor may be looking for at least 20% profit or revenue growth a year.
To help you better understand the dilemma between paying a dividend or reinvesting your company’s cash flow, pretend you are the CEO of a company. Your goal is to maximize the return of every dollar spent.
How Much To Invest In Growth Stocks By Age
Let’s say you agree that it’s better to invest in growth stocks over dividend stocks when you are younger. Let me share a guide for how much to invest in growth stocks by age.
These percentage figures for investing in growth stocks are for your stock-specific investments, which is a portion of your overall active and passive stock investments.
In other words, let’s say you have a $1 million investment portfolio. You decide to invest $600,000 in equity index ETFs like SPY and $200,000 in bond index ETFs like IEF. The remaining $200,000, or 20%, will be invested in individual growth stocks or dividend stocks. This is the portion of your investments we’re talking about.
Growth vs. Dividend Stock Weightings
Age 0 – 25: 100% growth stocks, 0% dividend stocks
Age 26 – 30: 100% growth stocks, 0% dividend stocks
Age 31 – 35: 90% growth stocks, 10% dividend stocks
Age 36 – 40: 80% growth stocks, 20% dividend stocks
Age 41 – 45: 70% growth stocks, 30% dividend stocks
Age 46 – 50: 60% growth stocks, 40% dividend stocks
Age 51 – 55: 50% growth stocks, 50% dividend stocks
Age 55+: 40% growth stocks, 60% dividend stocks
In my opinion, it’s always good to invest some percentage of your stock investments in growth stocks. However, as you get older and wealthier, you likely want to take less risk, experience less volatility, and earn more passive income.
Further, since dividend stocks pay dividends, you will also have to pay taxes on the income. If you so happen to already be earning a high income thanks to your day job, earning more dividend income is suboptimal, despite dividends getting taxed at a lower rate.
Your Main Investments Are Already Generating Income
Remember, your main index funds and ETFs should generate the bulk of your stock and bond passive income. Therefore, investing in more dividend stocks with your stock-specific investments may not move the needle. Instead, you might as well invest in growth stocks that will hopefully provide you stronger capital returns.
However, in a bear market, low beta, dividend stocks will likely outperform growth stocks as investors seek income and shelter. Once you’ve grown a sizable financial nut, your goal should shift more towards capital preservation.
My recommendations for investing between growth stocks and dividend stocks by age is just a guide. If you are more risk-loving, then you can certainly invest a greater percentage of your stocks in growth stocks and vice versa.
Just remember, you’ve already established a proper net worth allocation by age. My base case scenario in the second half of our lives is to have roughly a 30%, 30%, 30%, 10% split between stocks, bonds, real estate, and risk free investments. If you follow such a net worth split, then you already have a healthy amount of assets that are paying you income.
You’re only investing a minority of your investable assets in active investments. Therefore, you might as well try to see if you can outperform the most with growth stocks in this bucket.
Growth Stocks Versus Dividend Stocks Recap
Let me summarize why I think it’s better to invest in growth stocks over dividend stocks for younger investors.
1) It’s harder to build a sizable financial nut with dividend stocks quickly. Management is returning cash to shareholders instead of finding better opportunities within the firm to invest. Therefore, by definition, a dividend-paying company’s growth is anchored by its dividend yield.
2) Dividend stocks tend to underperform in a rising interest rate environment. Think about what happens to property prices if rates go too high. Demand falls and property prices fall at the margin. However, in a low interest rate environment, growth stocks tend to outperform. The reason is because cheap money can be borrowed to reinvest in faster growth opportunities.
3) If you properly diversify your net worth you will already have a good portion of your net worth producing a steady stream of income through real estate, bonds, CDs, and other income producing assets. Adding dividend stocks is therefore adding more to fixed income type of assets.
4) Match your investment style with your stage in life. It is backwards to aggressively invest in dividend stocks when you are young when you’ve got little capital. When you are young with a little amount of capital, your primary goal is to build as much capital as possible. When you are older with a lot more capital, investing in dividend stocks makes more sense. You want to generate income so you don’t have to work. Further, you become more risk-averse because you have less time to make up for your losses.
5) If you think we are heading into a bear market, you will likely lose less investing in dividend stocks over growth stocks. Dividend-paying companies tend to have stronger balance sheets, stronger cash flow, and more defensible business models than growth companies. However, if you think a really nasty downturn is on the horizon, rebalancing out of equities may be an even better strategy.
6) To thoroughly understand the debate between investing in growth stocks or dividend stocks, you must think like the CEO or CFO of a public company. To help make your company a success, you must find the optimal use of each dollar. Using your company’s cash to pay a dividend means the alternative of reinvesting the cash into your company or acquiring new business aren’t as attractive.
You are free to invest in whatever type of stock you like. We all have different financial goals and financial situations. However, I hope you at least find the logic in my arguments.
A Powerful Investing Strategy To Consider
The final investing strategy to consider is buying growth stocks and investing in real estate, instead of dividend stocks. This powerful combination provides the best of both worlds: high growth and income.
I’ve invested in growth stocks and dividend stocks since 1997. Growth stocks have, by far, provided the most amount of returns since college. What I’ve also consistently done with some of my growth stock winnings is reinvest some of the proceeds into real estate. I’ve also used my savings to expand into real estate as well.
Real estate tends to provide more income than dividend stocks. Real estate also offers asset class diversification to dampen volatility. During stock market downturns, real estate often outperforms, as we saw during the March 2020 meltdown. I don’t enjoy seeing the value of my stocks go *poof* overnight. But I do like the steadiness real estate provides.
Although managing real estate is more of a hassle than investing in dividend stocks, I like the diversification. Further, by investing in private real estate syndication deals, I no longer have to deal with tenants or maintenance issues.
Favorite Real Estate Marketplace Platforms
I’ve personally invested $810,000 in real estate crowdfunding across 18 projects. My goal is to take advantage of lower valuations in the heartland of America and earn income 100% passively. Real estate crowdfunding investments and rental properties have supplanted my dividend stock investments. Together, they account for roughly $190,000 in passive income.
Fundrise: A way for accredited and non-accredited investors to diversify into real estate through private eFunds. Fundrise has been around since 2012 and has consistently generated steady returns, no matter what the stock market is doing. For most investors, investing in a diversified eREIT is the way to gain real estate exposure.
CrowdStreet: A way for accredited investors to invest in individual real estate opportunities mostly in 18-hour cities. 18-hour cities are secondary cities with lower valuations and higher rental yields. These cities have potentially higher growth as well due to job growth and demographic trends. If you have a lot of capital, you can build your own select real estate fund with CrowdStreet.
Both platforms are free to sign up and explore. I plan to continue investing in growth stocks and real estate for the foreseeable future.
Readers, I’m curious to hear your thoughts on the growth stocks over dividend stocks debate. Which type of stock do you prefer and why? Do you think “dividend growth stocks” is a misnomer?
Unfortunately, in Belgium, dividend stocks aren’t really interesting. It’s much more interesting to invest in accumulating trackers or stocks that don’t payout but rather reinvest their profit.
I think there is a major failure for many people in the assumption that a dividend stock can not also be a growth stock. Price appreciation can easily happen while a company is paying a dividend. In fact there are many stocks out there that have been the S&P 500 over a ten year period. Now do they outpace a company like Tesla? No, but they do provide a great return on top of the compounding effect of a dividend.
I also think that paying a dividend does not mean a company is not reinvesting in itself. If a company has a wide moat and good financials, that remaining free cash flow can be put to great use outside of just supporting a dividend. I think one of the major problems people have with dividend stocks is they expect them to work like a growth stock and yield chase. This typically means they end up with lower quality companies, or companies more suited for a retiree to generate monthly income.
What you outline here is really smart and are some of the pitfalls I see so many people complain about when they get into the markets.
How have your dividend stocks done compared to growth stocks? And how long have you been investing? It’s just good to know where you’re coming from so we have a better idea.
There are definitely benefits of dividend stocks and dividend stocks can definitely perform well as sell. I have plenty of dividend stocks as I head into retirement again. But I have already accumulated my nut.
Gl on your dividend stock business.
I am nowhere near as seasoned as you are as an investor and I have a ways to go; it hasn’t been quite a decade yet for me. I started my journey focused on growth because I still had plenty of time in the market. But I discovered that I didn’t need to maximize my gains to the extreme and that I was happy if I could formulate a strategy that helped me stay above the total market index’s so there was a reason for choosing single stocks over a broad market ETF.
I think with growth stocks you are always going to have the opportunity to really maximize your wealth accumulation short term, but for longer term investors I think if you find dividend stocks with strong growth factors you can benefit from maybe less price growth that is offset by compounding factors from reinvestment. I think all the points you make here are on the nose and I agree, I just see so many people entering the market now thinking that they are going to “make millions” on a stock pick, but are missing the real art of what it means to invest and the research it takes to know that you are finding a solid company and not just a fleeting internet fad. I really love that you do not show a real preference here really, both forms of investing have their pitfalls and the reality of investing can be rough for someone who isn’t willing to put in the work if they are doing it on their own.
Also, thank you for the well wishes. More of a passion project than a business, but I hope it can help people along the way as a free tool. I have known of your site from some time and have taken inspiration for how many great resources are out there from people just trying to help.
The great thing about investing is that everything is rational. We invest in what we feel right. And then we accept the outcome, 5, 10, 30 years from now.
Sounds like you are in your late 20s or early 30s? It’s hard to know what you don’t know. And as you get older, you’ll find out there’s even less you don’t know! But good thing time is on your side.
The stock market has a way of humbling all of us. Always stay flexible in thought.
That is the best advice. It has been a pleasure.
Hi Sam,
Love the topic and your views on dividend vs growth.
Probably a couple of comments from me, a non American investor:
-A stocks value can always go to zero. Growth stocks crash. At least with a dividend you have a payback period. I think about dividends being money off the table, a slow de risking of the invest. I mean payback period is also an important financial metric?
-We are all dead in the long term.
-It also depends on what you want to do with your dividend. I for instance like toggling between reinvestment/ buying more shares / reducing debt. That optionally is really compelling, especially in a bear market with a portfolio that produces cashflow. Alternatively in a market that *may* be overvalued. Cash is king.
-Ideally a company will have low debt, which being an obligation to pay may lend itself money to pay shareholders rarther than bond holders with some safety. I tend to value a consistent payout ratio on mature companies with reasonable future prospects.
-Strong growth stories are hard to find, as are reliable dividend payers but the two are not mutually exclusive. It’s possible to have both.
Just 2 bob from me.
Great article and am in 100% agreement. I’m a growth stock girl. You have to think beyond the quarter, beyond the year, and grow long-term with these companies. It’s a huge benefit! Stick with them. I also own a few dividend stickers, and take the dividends and plow them back into growth stocks.
Thank you!
I’m heavily weighted in a dividend-producing fund in my Roth IRA, specifically. I believe dividend-producing funds or stocks are invaluable for early investors because over time, you actually own additional shares with reinvestment, whereas rising stock prices and gains is on paper only unless you cash out. Paper gains can be wiped out real quick with a crash and I think one is inevitable.
I’m weighted about 8-10% of my total retirement allocation in small caps though to ride the growth you discuss.
I didn’t really consider the future of our interest rate environment (which seems forever up in the air) and how that could affect firms offering dividends so thanks for the reminder.
Cool. Hopefully you are in the middle or second half of your financial journey. It’s great to have less volatility in a large portfolio the produces income to provide for desired living expenses.
To be able to minimize heart attacks by wanting less at an older age is great.
Great post, Sam! The most important sentence in the entire post is- “Paying a dividend lowers the amount of cash on a company’s balance sheet, which in turn, lowers the equity value of a company”. I wish people understood that dividends also have an opportunity cost. What if the company used that money to invest in better NPV projects?
During my MBA program, I took a course titled Advanced Corporate Finance, and our professor explained this concept very well using the example of Microsoft.
Fortunately, he has made his course available for free online, and the curious mind can go and read more about this concept here: janschneider.website/teaching/corporate/10_dividends.html
@Tarun – my young friend, I suspect that the MBA theories and the nice, cut from reality graphs that come with them will not bring wealth to most people. Your professor giving you as example Microsoft is the epitome of what’s wrong with all these paper tigers. Why didn’t he use GE as example? Or if his point was to be more modern – why didn’t he use TSLA? Do you have a proof that the “hot” TSLA will make many new millionaires in the long term? Even a kid can look at graphs post-factum and build whatever theories he can imagine. The truth is – no one can predict the future and this is where the big problem for real people lays.
Sam is right in his theory of investing entirely in growth while you’re young but only with some assumptions and unfortunately assumptions is what makes an “ass” from “u” and “me”. He admits that later on in life you should add dividend stocks but he fails to explain how exactly should this magic happen – are we talking here about moving funds from growth to dividend later in life (for success in such strategy you obviously need to be really lucky in timing the market properly) or most of the new funds you invest later in your life should be directed towards dividend stocks. This is a crucial point if you want to create a theory and it’s not answered here. I wonder why. If he’s talking about the first, only few lucky ones will manage to do it but the majority will fail measurably trying. The biggest culprit of investing all in growth when you start investing is that growth is much more unpredictable and volatile short term than investing in dividend and compounding it. Unless you’re lucky, investing all in growth for a period of time will most likely burry you long term and even if the idea is that at some point of time you’ll start putting more new money towards dividend, this might not offset the potential loses from investing fully in growth till that point.
Now comes another essential question – are you the really selfish type of person who doesn’t care about his kids and wants to spend all he managed to accumulate over the years or he wants to leave some sort of financial legacy? If it’s the later, investing too much in growth is a real disaster. All you can leave behind that has some sort of control are dividends, not growth. This is because dividends are much less volatile long term in general than growth and if one needs X amount of money per month, he cannot really afford thinking what the market is doing this month and if his or his great “papa” picks are still growing this month. Only dividends can give you the freedom to not touch the principal this month – again, because dividends are much less volatile than growth. If you can create a portfolio that let’s you live off of only dividends, you’re in much better control of not only your future, but the future of your kinds as well…
Just think it really through before you get too excited about growth theories and nice professor’s graphs…
Just a random guy browsing the internet here…
Mike fails to understand the risk to reward ratio. If you have a few mil in the bank and want a hands-off (risk-free) income, put it into dividend stocks.
But what if you don’t have a few mil to invest?
This is where the risk to reward comes into play. Yes, you can build up your dividend portfolio and reinvest dividends until u ready to retire (a very safe but slow strategy). Also, each time you collect dividends, you pay taxes. Why would you collect a dividend to pay taxes and turn back around to reinvest into the same portfolio (facepalm here)?
Instead, the goal for the young person would be to get to the few mil portfolio as fast as you can. One of the ways to do so is to buy and hold growth companies like Tesla. You want to dca into your top 3-5 picks over the next 10-15 years. This is what true compounding is all about. It’s not about taking money out every year.
Everything in this life is about the risk to reward ratio. Most people would eliminate risk to feel safe, but the reality is that the more risk you take the more successful you will be.
If you are feeling fancy, you can go day trade some options to take as much risk as you can, you might get rich quick ;)
Growth stocks would be a happy medium for someone who wants 20-50% (sometimes even more) annualized returns and educated enough about their stock picks. Sure, the stocks might crash, but if you don’t sell and just hold it thru the bear market, you will most likely come up ahead in the new bull market.
If you want to grow slow and steady and retire at 60 with 100K/year dividend, go for it. I want to do the same but when I am 40.
Does the time worth the risk?
It’s up to you, but growth stocks will always provide a faster and better return than dividend stocks.
Paying a dividend does not affect the enterprise value of a company, it lowers the equity value.
Enteprise value = Equity value + Debt – Cash. The dividend payment lowers cash, so enterprise value goes up. But the dividend payment also lowers equity value by that same amount, so enterprise value doesn’t change. (Enterprise value roughly represents the operations of the company and debt / cash are just capitalization changes).
You also don’t have to take his word for it. Empirically, dividend stocks outperform. From 1972-2017, dividend stocks returned on average 9.25% p.a., and stocks without dividends returned on average 2.6% p.a. If a stock stops paying a dividend, it’s very bad as the article mentions, and those stocks underperform. But while there are big winners like amazon, growth stocks underperform on average.
Perhaps the biggest argument against dividends is the inefficient tax nature of it, and instead would be better off with stock buy-back programs which allows investors to time their dividends appropriately. Also you have more chance to be a millionaire with growth stocks by getting “lucky”. But most will just underperform their dividend peers.
Sam,
I always look forward to your articles because they get me thinking about the best ways to allocate my investments. Straying slightly off topic, but while reading this post I began thinking about this: I wanted to ask if you have ever written an article about best investment strategies (dividend stocks, growth stocks, REITs, tax free munis, bonds) for different types of accounts (401k/IRA, Roth, post-tax) based on the taxes applied to the different account types?
Thank you for this article. From your other articles, I had come to the conclusion that maximizing income was important, and that dividend stocks were a way to increase income.
Having said that, though, I agree with the gist of this article. I have been investing for a short time, but I realized recently that by using dividend stock strategies only, it would take forever to get to financial independence. I realized that a “money printing” strategy was also needed just to get the sheer number of dollars up, dollars that could then be used to produce dividends and other passive income.
Since I don’t have a finance job, am not an executive, and have substantial household costs, the dollars from my w2 income go to lifestyle and there is only a limited amount available for investing. Investing in growth stocks to grow the number of dollars, and then moving them to dividend stocks to grow the passive income, is my current strategy.
Thanks for the articles, they make me think and consider new perspectives!
Great! You’re welcome. And actually, the value of dividend income has also gone up with interests rates having come way down.
It’s just that in a bull market, dividend stocks investing is a suboptimal way to build wealth versus growth stocks.
I tend to agree the younger you are the more chances you should take. However, if you invested any money into T exactly 10 years ago today and reinvested your dividends your annual return is 6.08 percent. Not Tesla money but not bad either. I think younger people should look at dividend stocks more as bonds with a higher potential for appreciation.
Comparing Tesla to T is to extreme. How about Intel compared to McDonalds.
For sure. People said the same thing in 2015 when I compared Tesla and AT&T. Now the difference is even more pronounced.
A 6% compound annual return is nice for sure. However, everything is relative in finance.
I wish I would’ve listened to you in 2015!
Tesla gets you rich, T keeps you rich:)
Hah, I wish I listened to myself and went all in on TSLA back then too!
Oh well. Back to the salt mines of writing posts!
I mostly agree. Young investors should invest in growth stock. However, it depends on your track record too. I invested in growth stocks in my 20s and didn’t fair so well. I sold too early and owned too many bad stocks. Life became much easier when I changed to index investing + dividend stocks.
My main problem with growth stock is their share buyback programs. They always invest badly and buy back when share price is high. IMO, dividend is much better than share buy back. If they can’t invest wisely, give the money to the investors.
I wish I understood this stuff when I was a young investor. But at least I tried, saved, and put money into the markets. I could have made a lot more if I focused on growth stocks but I really didn’t know what I was doing. C’est la vie. At least I plan to teach my kids as much as I can about investing to help them out as much as possible
I feel like a logarithmic graph is underutilized in comparisons like this. Look at DIS vs. TSLA. DIS gained 79% in that timeframe, which is pretty good, but it looks as flat as EXXN (down 44%) because TSLA did phenomenally well.
I too am a fan of dividend investing, and my portfolio is more weighted towards them than you would expect from my age group.
I’m surprised you didn’t mention the tax inefficiency of dividend stocks, since you’re generating extra income during your working years — when you tend to be in a higher tax bracket.
It can eat into your returns
That said, I’m more than happy to take the slow road to wealth, rather than trying to catch a unicorn with huge tech gains.
It’s a personal and philosophic stance, rather than one rooted in finances.
I mention taxes, which is a drag, especially if you are in a high income tax bracket.
I’m much more biased towards growth stocks.
AGE AND RISK. I am 71. According to mortality tables, I have ten years left. A blink of an eye. I own Amazon, Apple, Netflix, PayPal, TQQQ and Tesla on margin.
If everything goes bad, I only have ten years to live with it. If at 30 I make a major mistake, I will live with it for 50 years. For 50 years, I won’t have that money invested, because I lost it at age 30. If I lose ten thousand at age 30, how much did I really lose at 8% for 50 years.
The secret is don’t lose the ten thousand dollars. How? Become educated. Read and read more and then you will understand diversification is not your friend, trading is foolish. Look at it this way. You are 30 and dating the person of your dreams, do you want to tell her/him you are a part owner of Apple or you own a mutual fund full of stocks you don’t care about. You’ll get it. You aren’t buying stocks, you are buying companies through stock ownership
I’m a big fan of dividend growth investing and can tell you that it works for me. I put money into Dividend Champions, Aristocrats and Contender for more than 20 years. That’s why I’ve created a nice monthly updated Excel-Spreadsheet of the 1.000 best long-term dividend growth stocks. You find the list on my blog. My advice is: be patient. Don’t overpay a stock and look more on growth than on yield. Thank you for the great article. Good work.
Hollywood Video was always a poor man’s Blockbuster
what is the name of your blog?
Thank you very much for this article. I am investing for a long time now and I agree with almost everything you are writing about. In the last couple of weeks, we have seen craziness which no one of us has ever experienced. These times show, that no investing strategy is safe all the time. BUT, it is a good time for us to prepare for future opportunities. Many of the best opportunities start in a bear market or in corrections. Be careful, learn, be prepared and safe all of you! Tom
The article seems spot on for what happens to dividend stocks when rates rise. Investors are seeking out dividends as alternatives to bonds due to low rates and if rates rise, bonds will also suffer, but you have 30% recommended for a portfolio. Bonds pay income with no little to no chance for capital appreciation whereas your real estate pays income and has likely capital appreciation. The real estate has the added advantage of rising rents over time. What do you think of substituting real estate for bonds? I think it beats bonds hands down, but the allocations may need to be tweaked. I just hate bonds at these levels.
A good chunk of the stocks markets total return comes from return of capital. Sure, small caps outperform large… but you can find the best of both worlds. I like to stick to the Warren Buffett investing methodology.
Late to the thread, but we have started using high-dividend etfs as about 10-20% of a portfolio that is short term (6-12m) and used as a holding spot for funds to buy RE. This may or may not be smart given the 15% capital gains, but it seems to work better than putting it in 0.01% interest bearing bank account. Anyone else do something like this? – FS
Not sure how you can argue for dividend investing if you only have $110,000 at the age of 31. There’s no way to retire in 9 years at your pace. Just do the math. If $110,000 is your entire net worth then you are definitely underperforming for your goal.
I’d like to know how to invest. I don’t make a lot of money. $25,000 a year, but would invest $100 a month for retirement and also just to leave my kids something. I have Twitter, MCD, PG in my portfolio. I am learning this investment
Invest in the market i.e. low cost index funds like S&P 500 or Dow Jones. Fees are almost negligible say 0.06% or 6 cents on $10 bucks and no average “guru” beats the market.
Hi Sam,
I am in my late 40’s and do not make a whole lot of money at my day job. That being said, I recently inherited about 100k and was looking to invest it. I should also mention, that I have about 75k in a traditional IRA. I am willing to take on some risk… and was wondering if you or any of your readers, have any suggestions. I have spent the last year or so, looking at mostly US based stocks and specifically those that have performed the best over the past 3, 5 & 10 year time periods. I have made a few small investments in Apple, Chevron, Johnson & Johnson and Disney, through a friend that is a Broker. They were based mostly on his Company’s recommendations rather than on my own research. The investments have done OK, but I feel the need to add some more quality companies as well as maybe some Dividend Stocks, due to my age and lack of Financial knowledge. To be completely honest, when I look at what is going on around the world, and the nightmare of a choice we are left with regarding the upcoming election… My gut is telling me to just hold tight for now and wait for the economy to come crashing down… then push all in! I don’t know if that sounds crazy, but it just seems that every 7 to 10 years, the market gets crushed… and I feel like its screaming high right now, especially relative to what I see on the news. I don’t want to sit on the sidelines forever, but I keep thinking that if I wait for the inevitable down turn, and then invest about 4k on each of the 25 best performing stocks (over the last 10 years) that I could make somewhat of a killing compared to anything I could come up with on my own or in any Dividend stocks. Any thoughts or advice, would be greatly appreciated! Thank You in advance… I look forward to any and all responses!
I strongly recommend holding tight for AT LEAST a month, if not three months whenever you get a windfall. Don’t let the cash burn a hole in your pocket. We are also at the top of the real estate and stock market cycle, so what’s the rush?
I would research various investment strategies. Once you are comfortable, then deploy money bit by bit.
Thanks Sam…
Will Do! I appreciate the quick response and advice!
No problem. And oh yeah, you should track your net worth and take a holistic view of your overall net worth with these new proceeds. That which you can measure, you can improve.
Once you see the $100K in relation to everything else, you can make a better decision.
Glad i found this post.
Almost 30 years old, and i dump around 50% of my income to 401k, IRA and ESPP (which are sold for around 30% gains, and reinvested into a retirement account since IRA and 104k are maxed)
I have been debating where to start throwing my money, and i have started up a bit with lending club, and vanguard index funds, but most of the hype and youtube videos i see, are people praising divide stocks, and how you can “reinvest that free money back into the stock for more free money!”
But in my head it didn’t add up, mainly because i knew during a dividend payout, prices generally drop by that much.
All this info here really cleared things up. I think i not put any more than like 5% if anything into dividend stocks/funds. And even more so, stay away from those “growth dividend” funds
I appreciate your argument about how certain dividend stocks will never be able to to match the returns of high growth stocks such as Tesla. I used to think the same way you do about a stodgy stock such as AT&T (T). However, your calculations of returns of AT&T above are way, way off. For example, you stated that the return of AT&T between the 2009 market low and June 3, 2013 was only 50% and compared this against a return of 140% for the S&P 500 Index. However, you did not account for reinvestment of dividends. At one point during 2009 the dividend yield of AT&T was close to 7.6%.
According to Yahoo Finance, if you had reinvested dividends in AT&T during this time period, the total return on AT&T would have been about 106%, not 50%. Obviously this is still less than the return of the S&P 500 Index over that time period, but the return of AT&T is more than twice what you indicated above.
Moreover, you also failed to account for the fact that AT&T is far less volatile and declined less than the S&P 500 Index did during the great recession. I am posting this comment before the market open on November 18, 2015. The total return (accounting for reinvested dividends) of AT&T over the past ten years between market close on November 18, 2005 and today is about 131%, which is greater than the total return of the low-cost S&P 500 Index ETF (accounting for reinvested dividends) of about 101%.
Hi, I agree.
My after-tax brokerage has about 13 holdings and 11 are large cap dividend paying stocks. I’m in my low 30’s so I guess I’m young :-). I’ve calculated on a spreadsheet that these holdings will only pay almost a 3% annual return in dividends. What would be your advice on how I can strategically balance the composition of my portfolio to acquire more growth-oriented stocks and in today’s volatile markets? Thanks in advance for your response.
“You do not buy REITs and dividend yielding stocks in a rising interest rate environment.”
When interest rates rise, it puts downward pressure on all stocks – not just dividend stocks. Or do you mean dividend stocks tend to be affected more?
Regarding the 30/30/30/10 rule. For someone in the 30-40 age group. Will 48/12/30/10 work out. (48:12 =80:20 stocks:bonds)?
I am a recent retiree. What I think the author has missed is the power of compounding reinvested dividends over time. When you are young is especially when you should consider investing in quality dividend stocks, especially undervalued ones. Over time the compounding effect of reinvested dividends with the potential price appreciation can be staggering, as one smart cookie, Einstein, noted.
Your comments seem to have substance and it’s obvious you are well informed and educated in finance. I am not. However, back in 1996 I invested a small amount (I think it was 3300 dollars in a micro- cap mutual fund, if I remember correctly, I bought a 100 shares at $3.30 per). I mentioned *I think* because it was so long ago and I don’t have my records with me. However, *I KNOW* its within a few cents plus or minus. I had the dividends reinvested. The fund is at $8.24 right now as of yesterdays close. Because of the dividend reinvestment, I now have about 6500 shares which puts a better than $50,000 return on a $3K investment. Although its been almost 20 years, I still think that’s not a bad deal. I kick myself for not investing 30K instead of 3K. For this reason, I don’t think your advice is all inclusive. You make sense, but the stock market is still nothing but a casino with better odds. By the way, I picked that mutual fund by closing my eyes and putting my finger on the financial page of the paper, with the resolve to buy whatever it landed on………………
Thanks Sam, this is very interesting. I’m still trying to figure out my own investing strategy. I’m fairly new to this whole early retirement scene…
One thing I’m curious about is how you recommend to handle taxes. As I understand it, with a dividend growth portfolio you would never realize the gains and hence pay no taxes on the gains.
If you first grow and then rebalance to more yield returning investments, you will have to realize your gains at some point along the way… I assume ideally you would prefer to do that in a slow and steady process after retirement, but when you deal with growth stocks you might also want to protect your gains by setting stop losses which could then create a huge taxable event on some random Friday morning…
Sam, i would like your personal email? i have a question to ask
Interesting article for a young investor like myself. I’ve started out mainly investing in established dividend paying companies like AT&T and Altria, thinking that they will be around for a long time and I can set my positions to DRIP and forget about them.
I’ve been reading a lot of the classic value investing Graham/Buffet stuff and was wondering what are the best ways to tell apart a highly speculative stock like Tesla, from a legitimate growth investment opportunity?
Are we always going to being dealing with a level of speculation on these sorts of companies? Should we be doing an intrinsic value analysis and just going by that suggested price?
Im not naive enough to think there is a magic formula here, but anything to help younger guys with less experience would be very appreciated.
High dividend is important but it comes at a risk, I was been holding Pitney Bowes for a while and managed to receive over 10% for an extended period of time, I was able to escape before they cut their dividends and stock plunged. I guess the moral is you need to strike a balance between growth and dividend otherwise you’ll get into trouble eventually. This is a great post, thanks for sharing, really detailed and concise.
There are some great examples here. Is there any way to hedge the dividend payments? I’ve not done a lot of research into this however I was thinking about buying the dividend stock and then selling a call option, if the stock did rise then the call option would rise in value and I would make a loss but still get a dividend payment. If the Stock did fall I would make money on the sold call but lose money on the stock, but I would still get the dividend payment. Has Anyone tried a strategy like this? Does one exist?
Interesting article, thanks.
I do think there is something to be said about taking additional risk when you are younger, but I think proper diversification is critical. I don’t put all of my eggs in any one basket nor strategy. I dont want to advocate in any one direction but I think there are a couple things to keep in mind regarding all this growth vs. income bologna:
1.) You are flat out wrong if you believe a 25-30 year old investor who makes monthly contributions to a boring dividend portfolio will struggle to reach financial independence by retirement. Run the numbers on $2,000 a month with a 4% starting yield, 7-8% annual dividend growth and a measly 5% share price growth for 20 years and tell me what you come up with? I’ll give you a hint its $1.6MM and the portfolio is spitting off $100,000/year without ever selling a share. And you may not even be 50 years old yet. If you have a shorter time horizon or you want to live your life like a Lil’ Wayne music video, the whole thing is more difficult. But as anyone knows, time is your most valuable asset. Since we have a hard time with basic math lets use Laquinta Growth’s friend as a working example. $90,000 by 29 is nothing to sneeze at. Again, if total contributions are $2,000/mo with a 4% average dividend yield, 8% average dividend growth, and 5% price appreciation by age 45 his buddy will have a $1.3MM portfolio and it will be paying $75,000 in dividends. I dont know what part of the world you all live in but that is already substantially higher than the average household income.
2.) I am going to go out on a limb and say maybe 5% of the people reading this blog will ever actually pick “a 10-bagger”. I thought at this point it’s pretty much proven that trying to go out and pick high flying stocks or a 100% aggressive growth strategy flat out doesnt work. Over the long term, dividends have been critical to total return. From the end of 1929 through March 2012, reinvested dividends provided almost half of the S&P 500 Index’s total return, or a 9.4% annualized return versus a 5.2% return for price appreciation alone. If anyone wants to bet that they are going to consistantly destroy the S&P over the next 20-years and wants to put their naive money where there mouth is come find me.
3.) “No hedge fund billionaire gets rich investing in dividend stocks” – this is the most rediculous and erroneous comment. A wise man once said “Rule No.1: Never lose money. Rule No.2: Never forget rule No.1.” He doesnt run a “totally awesome hedge fund” but guess what, he did alright with lame slow growth dividend stocks didnt he?
I invest all over the place; growth stocks, dividend stocks, “evil over priced bonds”(heaven forbid!), REIT’s, etc. There are merits to all strategies, and I think the overall missing ingredient is someone’s dedication to their chosen strategy. You go after something with 100% conviction in anything in life you’ll be successful. The problem people have is staying the course and remaining committed. Stay thirsty my friends….
Jon, feel free to share your finances and your age.
I write this post based off my own experience where I’ve developed a financial nut that generates over $100,000 a year in passive income now, which does include dividends before the age of 35. I couldn’t have gotten there if I didn’t invest in growth stocks over the past 13 years.
Please provide your story so we can understand perspective. I’ve found that there is a dividend investing bubble with so many people who are not financially independent pontificating why dividend investing is the greatest strategy on earth. I do like the strategy. I just don’t think it’s going to help those who want to reach financial independence before the traditional retirement age.
Samurai –
I can’t disagree with you that if you are trying to be financially free by 35 you are going to have to get way more creative with how you approach your investing strategy. If you are already generating $100,000 a year passively I commend you for reaching such a feet. Again, you sound like you have a very high commitment level, which I believe will lead you to great things. Unfortunately your story is the exception, not the norm. I am in no way advocating being “normal”, in fact most of the readers here are probably far from it. This is great, but the long stick of reality is a tough one when we’re talking extreme early retirement. This isn’t to discourage anyone, but realistically if you are trying to retire in 10-years it doesn’t matter if your annual returns are 10% or 50%. You’ll need aggressive measures.
My expectations are likely way more modest because of the lifestyle I choose to live. I didn’t start my career until I was 24 and worked your typical office job that everyone hates. I am 30 now, and I’ve very gradually had to move my way up. My household income is probably more than most ($200k+) but I also spend my fair share trying to keep some semblance of balance. I save what I want, but I most certainly could do more. I am well aware of my shortcomings and things don’t happen overnight. Total readily investable assets are probably in the neighborhood of $350k. Could I get lucky and double down on the next Apple or LinkedIn? I could…and I’m young so if things go sideways I could always start over.
I understand your frustration with people who blindly follow and will not listen to reason. Dividend investing isn’t the greatest thing ever invented. It’s simply 1 of many tools you may want to have in your bag to make things work. As I mentioned in my first post I wouldn’t ever advocate putting 100% of your savings into anything. Real estate developers are notorious for this. But when incorporated appropriately can be another very powerful income generating tool.
Again, congrats on the success, keep it up. I just don’t want people to avoid one particular approach all together because they are only looking 5-feet in front of them.
Thanks for sharing Jon.
What it boils down to is risk, reward. You can reach early financial independence without taking risk. So if one is saying in going to retire early and live well of dividend investing, it’s probably not going to happen.
It’s probably not going to happen blindly swinging for the fences either. But, at least there is a chance. It gets harder to take risks once you’ve built a financial but it are too old to want to start over.
Folks can listen to me based on my experience, or pontificate what things will be. All is good ether way!
While I do agree with many points in your post, I still do think dividend growth investing can be a great and lazy way to secure extremely early retirement. Much like yourself I am not part of the norm, and have had a rather generous paying career at a very early age (22), and I am 24 right now investing in soley dividend growth stocks. 2 years ago i didn’t even know how DRIPs worked, let alone invest, a year and a half ago i bought my first share which was RIOCAN. I intend on staying true to this investment lifestyle and yes I do believe I will accumulate enough wealth to reach FI in my 30s (only had a NW of $16k and now currently have $134k invested in dividend grwoth stocks churning out about $5.5k yearly). I am now at a level where my rent can be covered on a monthly basis by my dividends alone.
Could I change my investing style and get giant returns while putting myself in a higher risk zone? Absolutely. But one thing is certain and that dividend growth investing is one of the most passive (laziest) ways to build wealth. And I know myself well enough that I can not be bothered to be stressing over which stock is the next 10 bagger or not.
best regards
Ace
At 24, I really think you should do both and look for that 10 bagger while maintaining a dividend investment strategy.
You just started investing in a bull market. It’s important to know that it’s not always good times! Diversify!
You make an excellent point about dividend stocks being mature companies with slower growth and therefore dividend payouts to shareholders. Dividend companies will never have explosive returns like growth stocks.
Younger investors investing for a 3-4% dividend yield are misallocating resources and their portfolio amounts after 5, 10, 15 years shows this. Dividend investing is easy because there’s less risk and all the names like Coke and Walmart are out there. Doesn’t take mug analysis or brain power so you can’t fault younger investors for just sticking with this strategy.
No hedge fund billionaire gets rich investing in dividend stocks.
I thoroughly agree with you on investing in growth stocks and looking for higher reward names while you are younger.
It’s perplexing to hear investors under 30 or even under 40 predominantly focus on dividend stocks if they wish to retire early. One guy I know is 29 years old and is a dividend investor with only a $90,000 portfolio. He says he wants to retire by 45 at the latest and there’s just no way if all he could amass is $90K after 7 years. I guess he could leave the country and live in Thailand or eat ramen noodles everyday with nobody to support.
Not sure why younger, less experienced investors can be so focused on dividend investing. Maybe because it is so easy and their knowledge is limited?
Sam, while I agree with your general comment that the capital returns on larger dividend stocks are likely not as significant as growth stocks, an investor can easily make a total return of 10% plus consistently by buying these stocks steadily overtime with minimal stress. In my view, this is very important when you are a young investor. Steady returns at minimal risk. Growth stocks are high beta, when they fall they fall hard. Its like riding a roller coaster. Give me a McDonalds any day over a Tesla.
The best of both worlds are small/mid caps stocks that pay dividends. Thats really my sweet spot. I get close to $9k of my total $27k in annual dividends from this group of payers. They give me capital growth and income growth of close to 20-30% per year. Probably $200k of my cash is tied up in these companies. Unfortunately exposure to these types of stocks isn’t readily available in the US market, they’re plentiful down under though!
Howdy Mate,
I think we just have a different view of risk as i disagree with your statement “Very important when you are a young investor. Steady returns at minimal risk.” Chances are that one will never be able to achieve a big enough financial nut through growth stocks. But I can assure you that chances are practically zero a dividend investor will ever find the next Google, Apple, Tesla, Netflix, Microsoft etc because these stocks never focused on dividends during their growth phase.
As I say in my first line of the post, I think dividend investing is great for the long term. It’s just suboptimal for younger investors who are looking to achieve financial freedom sooner. A 10% total return is nice, but if the financial nut is small it doesn’t move the needle. Your $27,000 a year is great after a nice bull market, but what is the inflation rate, risk free rate, and the past several years of broader market returns in Australia? We need to compare apples to apples. Where else is your capital invested is another important matter beyond the 200k.
Best, Sam
I’m planning to start investing after I turn 18 and this post really taught me a valuable lesson when it comes to investing in stocks, specifically whether to invest on growth or dividend stocks. I will surely consider buying growth stocks than dividend ones. Thanks!
Mark, just remember, RISK and REWARD. There’s very few cases where there is a lot of reward with little risk. You can and WILL lose money. Investing is a lot of learning by fire. But if you never get up and swing, you will never hit a homerun.
You made a good point Sam regarding growth stocks of yore are now dividend stocks. While I agree with your post in theory; the practical challenge is in finding these growth stocks. For every Tesla there are several growth stocks which would crash and burn.
Isn’t it better to invest in the index and the ride it out. I’ve lost a ton of money in trying to find these elusive growth stocks consistently.
I’m an advocate of allocating the majority of your exposure to whatever index you choose. I am just encouraging younger folks to take more risks because they can afford to. Focusing on dividend stocks and bonds in your 20s and 30s is suboptimal. Yes your companies have less of a chance of getting crushed, but the upside is also less as well.
I am new to managing my own money and just LOVE your blog! You explain everything in layman’s terms! What do you advise in terms of TIPS since inflation is inevitable with the flow of money in the economy? I love this article about dividend paying companies- makes sense. Keep up the great work and all the research you do!
Welcome to my site Chris! Always good to hear from new readers. Make sure to sign up on the top right corner via RSS or E-mail.
TIPS is definitely a great way to hedge against inflation. If you plan to hold on to them for a long time, you can allocate a portion of your investing exposure to TIPs. I just don’t think there is that much value in bonds at all, and the only reason why I would buy bonds is for tactical hedges (instead of shorting this crazy market).
Thank you so much for posting this!!!!
You just answered a large chunk of questions I had the other day
Now I still want to know if you think it’s too late to get in on Tesla? Do you think there is still more upside there? If I had a chunk of change to put into a potential multi-bagger today would it be a good idea to put it into Tesla?
I would think Tesla has maximized its run for now as they have to now execute and prove they are worth their $100/share. I’m personally looking for the next Tesla.
Thanks! Now I can divert my attention elsewhere lol
I have my eyes peeled for the next and I’m finding it utterly difficult to focus at work while I research stocks/companies!
you were horribly wrong about tesla lol
Bought at $88, sold at $380 and $320. That’s not bad for five years.
Too bad now it’s struggling, but it’s still much higher than $8 in 2013. Not sure what you are talking about.
This didn’t age well did it :)
TBH no one would have thought Tesla stock would do what it has done.
Hah! Not at all. I would have millions if I held on.
Alas, I only have about $190,000 in Tesla stock left. How much have you made from Tesla?
Hopefully the FS community here has gone beyond the core fundamental of aggressive savings in order to achieve financial independence. If not, maybe I need to post a reminder to save, just in case.
I like your “not going broke with Coke” comment. It’s a defensive strategy which plays not to lose. Again, perfect for risk averse people in later stages of their lives. I treated my 20s and early 30s as a time for great offense. A go for broke, play to win strategy. I have lost money many times, but I’ve also found great returns with this mindset.
Eventually we will all probably lose the desire to take on risk. I encourage younger folks to take full advantage of their youth because we’ll get old before we know it.
My strategy is to build the nut with private business and look to convert that to passive income via dividend stocks later in life. There is no greater way to achieve wealth than by private business, they can be bought at lower multiples and there is not a need to have percieved value to realize gains like stocks. Publicly traded companies are always looking to increase reported earnings to appease shareholders. Private companies look for areas to “hide” earnings to lower tax rates I.e. bonus depreciation, cash basis accounting.
Great site!
Love your last sentence about hiding earnings. So true! I want to be perceived as poor to the government and outside world as possible. You’ve got the exact right idea I’m trying to espouse. Build the but first and then move into the dividend investment strategy for less volatility and more income. Not the other way around.
I think you’ll enjoy these posts:
https://www.financialsamurai.com/2013/03/05/why-do-people-like-to-reveal-their-income/
https://www.financialsamurai.com/2013/04/21/how-to-stop-the-haters-from-hating-you/
I didn’t say there are no capital gains with dividend stocks. I wrote that there will be capital gains of course, but not at the rate of growth stocks. Everything is relative and the pace of growth will not be as quick in a bull market.
Dividend stocks are great. It’s not optimal for those who are trying to reach financial independence at a quicker pace. The question is, which is the next MCD?
Sam, I understand the premise and agree your risk curve should be higher when younger, but do you suggest to buy specific targeted mutual funds or to do the research yourself and pick individual stocks? I tried picking stocks a long time ago, but the more I learned about how businesses operate it became increasingly obvious I had no clue what I was doing. It always amazes me that a so-so public company can trade at 15 times earnings and people will sink a ton of cash into a single stock (I understand the whole liquidity aspect)…but small profitable good companies can be purchased for 4.0 – 5.5 times earnings. Your point about Enron, Tower, Hollywood, etc. really hits home & that’s why most of my free cash flow (since my nut is covered already) goes towards buying stuff you can touch & see like real companies or real estate.
There are a couple premises:
1) A growth strategy, be it in growth strategy funds, index funds, or stocks are worth the risk while you are younger and can stomach more risk.
2) It’s worth putting in the effort to care more about your investments than anything else, instead of just setting it and forgetting it. Don’t mindlessly “invest” in stocks or funds without understanding what you are investing in. Empower ourselves with knowledge. We spend more time trying to save money on goods and services than investing it seems.
A dividend growth stock investment strategy attempts to find companies that are already experiencing high growth and are expected to continue to do so into the foreseeable future.
Those are some really helpful charts to visualize your points. Wow Microsoft really leveled off when you look at it like that. I have a good amount of exposure in growth stocks in my 401k that have been treating me pretty well.
Microsoft has really been dead money for the past 10 years, and it’s looking more and more like Apple might fall the same fate if they can’t innovate.
Agree with you- my strategy has been shooting for multibagger stocks early on and later on plan on reinvesting the proceeds in dividend ETFS (VIG And VNQ) to supplement income from other sources. So far I’ve more than doubled my initial investment in the past couple years, much more than the meager returns offered by dividend stocks.
Nick, it’s the strategy I used in my 20s and by the time I hit 30, my 401(k) alone was over $250,000. Who knows the future, but more risk more reward and vice versa. It’s easier to take more risks when young. Good luck!
Sam, I agree with your overall assessment for younger individuals. However I don’t think your comparison of Tesla to AT&T is fair or a good one.
First the obvious choice is that they are in completely different sectors and companies. So compare Tesla to say Ford, GM, or even TATA. Yeah the returns are still not very close but that does show the difference in growth vs stability/dividends. Which is why I agree with your point.
Second Telsa could very easily fall back down in the next few weeks just as fast as it went up. This is obviously a risk you are taking in a “growth’ stock. Taking Tesla, I personally don’t think Musk(CEO?) will let it fail and will do everything in his power for electric cars to succeed, but we can’t say that about all growth stocks. Some companies in growth phases grow to fast and end up going bankrupt and getting bought up.
Overall I do agree with your assessment in this article.
The Tesla vs T is just an example. The argument is that if you are looking to accelerate your financial freedom, then you’ve got to take more risks. It is a paradox to try and achieve early retirement through dividend investing b/c it is very hard to build a large enough financial nut.
Folks have to match expectations with reality.
I think you’re just saying to take more risks when young, which makes sense. More risk means more reward given such a long investing horizon.
Dividend stocks act like something between bonds and stocks. While stock prices fluctuate rapidly, dividends are sticky. Dividend growth has only been negative 7 times since 1960. Dividends fell 20% in 2009, but the next largest decline was 3% in 2001.
I mostly invest in index funds, like VTI. My dividend income is more than my expenses, but only because I have earned a lot of money during the past 10 years with my business.
Sam,
I couldn’t disagree more. Total returns are derived from both capital gains and dividends. Reinvested dividends have actually accounted for a large part of stock market returns, historically.
Per the famed John Bogle:
“An investment of $10,000 in the S&P 500 Index at its 1926 inception with all dividends reinvested would by the end of September 2007 have grown to approximately $33,100,000 (10.4% compounded). [Using the S&P 90 Stock Index before the 1957 debut of the S&P 500.] If dividends had not been reinvested, the value of that investment would have been just over $1,200,000 (6.1% compounded) – an amazing gap of $32 million. Over the past 81 years, then, reinvested dividend income accounted for approximately 95% of the compound long-term return earned by the companies in the S&P 500.”
And that’s coming from Bogle himself, the founder of Vanguard..who is obviously not pushing dividend stocks, but rather index investing. And yes you read that right. 95%. Or almost all of the long-term return.
Sure it’s easy to compare AT&T to Tesla. You have a quasi-utility up against a start-up electric car company. Apples and oranges themselves couldn’t be further apart. Not only that, but if you would have done that comparison just four or five months ago it would actually have been pretty close, which is quite disappointing if you’re a TSLA investor. Speaks to the importance of time periods when comparing stocks. TSLA is up over 141% over the last 3 months. Besides, investors in AT&T aren’t looking to set the world on fire. They’re looking for stable income. And speaking to your 3% number you keep mentioning, AT&T yields 5%. That $500,000 nut then spits out $25,000 in yearly income at that level. Not so bad now.
Let’s take a look at McDonald’s (a boring snooze-fest of an investment). They cannot grow much because they’re returning so much to shareholders. Or can they?
MCD over 10 years: up over 366%
S&P 500 over 10 years: up over 68%.
And that MCD performance is before reinvested dividends. Which is really at the heart of all of this.
I’m not investing for “3%”. I’m investing for 3% (or more in many cases) that’s growing by 7-10% or more yearly. That 3% then turns into 3.3%, 3.7%, 4.1%, 4.5% and so on and so forth. And since the market is pricing these stocks at the “3% yield” you mention, the stock price goes up in tandem to price the shares accordingly. That’s why MCD shares aren’t $20 per share yielding 15%.
Looking beyond “the measly 3%” is important. You’re buying a piece of a high quality business that will grow earnings and send out a portion of those earnings to shareholders, which they can then reinvest back into the business. It’s a wealth compounding machine that almost greases itself.
But, the less for you means the more for me. And I’m happy to buy them all up! :)
Best wishes.
Jason,
Good to have you. Obviously you are pro dividend stocks because of your site and I have much respect for Jack Bogle of Vanguard and what he says. I also appreciate your viewpoint.
Lets just look at the numbers and situation:
* You are 30-31 and want to retire by 40 with a plan to live off your dividends.
* Your dividend portfolio is ~$110,000 currently, yielding $3,000-$3,500 a year. You make no mention of a 401(k), so I’m assuming the $110,000 is it and a majority of your net worth. Please correct me if I’m wrong.
* How do you plan to build your portfolio to a sizable nut within 9-10 years and retire through dividend investing as the main strategy and nothing else? Where do you think your portfolio will be in the next 9-10 years? 5X what you made in the first 9-10 years?
If you want to put all $500,000 into AT&T stock for a 5% dividend yield, be my guest, but that’s still only $25,000 a year to live when you’re 40 which is probably equivalent to $20,000 or less in today’s dollars. Let’s forget about predicting the future and just look at what’s transpired. Using a growth strategy in my 20s has led to a 401(k) valued around $250,000 by age 30 and this was by saving less every month than you are contributing now b/c of the 401k contribution limits. My 401(k) was also shackled by a limited selection of funds and no growth stocks to specifically pick.
You’ve got to admit the difference of $150,000 between the growth portfolio and your dividend portfolio at 30-31 is significant. And again, these are just the facts, not predictions which can be molded however way that benefits our argument. I’m confident your strategy of aggressively saving and investing in dividend stocks will payoff over the next 30 years, but I have my doubts that it will provide you enough to retire in 9-10 years at your pace based on history. If you were only able to accumulate $110,000 by 31, it’s difficult to see your portfolio grow 5-10X the pace during the same amount of time. I know everybody believes they are Warren Buffett in a bull market, but it’s best to be more realistic.
I really fear young people are going to get to their target early retirement age and realize their assumptions were way off and regret their decisions along the way. I really do hope you prove me wrong in 9-10 years and get big portfolio return. I think a better strategy is to make money online writing about dividends so you don’t need to get that big financial nut. $2,000/month is very achievable after a couple years.
Final point: Compare the net worth of Jack Bogle vs. any of the top 10 hedge fund managers in the world as we are comparing people at the top of the game.
Regards
I was resisting going down the path of highlighting the benefits of dividend investing… There are many benefits but I also agree that sticking to the conglomerates will limit the upswing of a stock (unless there is a market crash recovery) which young investors could benefit.
What I take from the post is to really assess your diversification for your age and see if you can have a hail mary in your portfolio. Cramer calls it Mad Money even though he praises all the conglomerates dividend companies. If you take a chance with 2% or 5% that can double than there is nothing wrong but you have to be willing to lose it and it takes nerves of steal to not throw more money into it when you get some hail maries.
I find there are also good growth with many dividend companies as I have a good number in my portfolio that have earned me 50% over the past 3 years. It’s a risk versus reward strategy. I stick to dividends because my downside is limited and I get paid to wait … I won’t elaborate more on my strategy here.
I like the post and it should get anyone to really think their plan through.
Maybe I’m missing something, but isn’t your Bogle example showing that capital gains returned 6.1% over that period and dividends returned 4.3% The dividends are certainly important, but the capital gains are the larger part of the return. Saying that 95% of the return came from dividends is very misleading, because you’re counting all of that extra growth to dividends when it’s really just because the combination of the two leads to a bigger overall return. Dividends actually accounted for 41% of the growth, which is certainly significant but also changes the conclusion.
Not sure how you plan to retire by 40 on your portfolio either. $110,000 is not a lot by age 31.
Not sure how you can argue for dividend investing if you only have $110,000 at the age of 31. There’s no way to retire in 9 years at your pace. Just do the math. If $110,000 is your entire net worth then you are definitely underperforming for your goal.
A 35 year old man who only has $400k saved and had to move to a 3rd world country to make ends meet. Yeah, I really want to follow your advice.
how old are you and how much do you have saved? Also thailand is not a third world country
Does your analysis include reinvesting the dividends?
What if you reinvested all the dividends instead of seeing them as “income” (DRIP model)?
Based on my examples above, I’ve added back the dividends for a total return.
I liked this article, mainly because you referred to people 40 and under as “young”. That made my day!
Well… age 40 is technically the midpoint between life and death!
I will and have gladly given up immediate income (dividend) for growth. I would rather have my stock split and grow vs. dividends which is a little more than bond interest. When I retire, I do plan to increase my allocation of TIPS and dividend paying stocks just to support my withdrawal rate.
Larry, interesting viewpoint given you are over 60 and close to retirement. I wonder if I will feel the same way when I’m 60.
I treat my real estate, CDs, and bonds as my dividend portfolio. So perhaps I will always try and shoot for outsized growth in equities. Thanks for the perspective.
Your real estate can be part of a growth strategy, if you do a 1031 exchange for a larger property. My strategy was increasing value (income) and I gave up immediate income. It was partially a tax strategy and wealth building strategy. Capital gains was lower than my ordinary income tax bracket.
I am a dividend investor and I agree on the many points you are highlighting and more importantly, diversification is key and it’s different based on your age and goals.
A 3% return is a good conservative dividend yield at market prices but over time, if you are carefully choosing your dividend investments, you can grow that dividends. Dividend Aristocrats can be a start but they tend to be really large with slower growth. If you do your research, you can still find companies with growth such as KMB but I agree that the LULU, Netflix or Tesla will rarely exist in such a portfolio.
Dedicate some money for your hail mary. I still believe it’s important you understand what you invest in and do your research. Even for your hail mary.
From a dividend investor I appreciate your viewpoint. I actually can’t wait to building the equity portion of my net worth to a big enough number where it alone can generate six figures in dividend income. Combined I’m there, but the competitor in me wants to see if I can do it with just equities.
Couldn’t agree more. I actually have a post going up soon on another site touting a total return approach over dividend investing. Dividend stocks have been getting a lot of play in the news the past few years, which I think is a big reason so many people are focusing on them. But it’s really just an undiversified approach to focusing on the lower-returning piece of stock returns, and a sub-optimal approach to risk management. Even in retirement I wouldn’t focus on dividend payers in particular. If I want to mitigate risk or have more current income, I’d simply shift my allocation more towards bonds.
I look forward to checking out your post!
It’s also very easy for any investor to shoot themselves in the foot by missing out on steady returns by constantly trying to find the next Amazon or Apple. For every investor that hitched their wagons to Amazon.com back in the late 90’s there were several others who made big bets on companies such as Pets.com.
If finding great growth stocks was easy, we’d all be rich. I have to imagine that for most investors their overall stock returns will be greater sticking with dividend stocks than chasing those elusive multi-baggers.
Not all stocks are created equal, even boring dividend stocks. AT&T may have lagged the S&P500, but my investment in 3M has outperformed the S&P by 21% since I bought it in 3/09.
I think dividend stocks and growth stocks have a place in everyone’s portfolio, how much of each just depends on a persons individual goals.
My point is that if you’re under 40-45 and don’t have much capital, it’s a suboptimal strategy in a rising market to have the majority of your equity portfolio in dividend stocks. What was the absolute dollar value on the 3M return (congrats btw)? Does it move the needle?
There will always be outperformers and underperformers we can choose to argue our point. If folks are glad to spend the traditional 30+ years investing to get to a meaningful financial nut, then great. But for those who want to seek financial independence sooner, it’s hard for dividend investing to take your there.
Young folks are confusing their savings contributions to their portfolio rather than their portfolio’s returns. Separate the two to get a better idea.
Sam, I respectfully disagree with you on this one, I only consider dividend growth stocks that are growing both revenues and earnings while consisitently increasing their dividends above 5% a year. In many ways I look at my stock investments as owning a piece of property, except the property happens to be the best property on the block. Here is a good example of real “divididend” growth investing: From January 2008 to now a portfolio of these stocks (MA, TROW, SBUX, GWW, UNP, & DIS) had a total return (with dividends reinvested) of close to 160% trouncing the S&P 500 total return (with dividends reinvested) of 27%….all this while paying me “rent” that increase more than 5% per year. Sam, I am not saying it is easy, but in many ways people received more pain in the real estate market than holding these great “properties”.
Joe
Joe, we can basically cherry pick any stock to argue our case. Perhaps we have to better define what a dividend stock is then.
I’ll definitely disagree with the pain feeling of when people’s portfolios were getting demolished in equities vs. just living in your home and not worrying about the daily price b/c there is no daily price.
Sam, the thing is that I didn’t cherry pick it, I have bought and held these holdings during the housing meltdown and financial crisis, in fact I backed up the truck on some of the holdings during 2009, but let’s say you were right about cherry picking, I would ask you is it cherry picking buying companies such as McDonalds, Proctor & Gamble, IBM, or Pepsico (obviously big blue chip that even Grandma would buy) …Sam even these four (as a portfolio) returned better than a 60% return (w div reinvested)…Remember I said quality properties and obviously you must do some homework. Sam, it may have taken me awhile to learn how to find thes type of companies, but I would bet you it is as easy or hard as finding a great appreciating real estate property.
Sincerely,
Joe
This is great to hear. Again, I am talking a relative game here. Im not saying dividend investing is bad, on the contrary. im saying for younger folks who whave more time, growth is more optimal.
Calculate the value of your portfolio if you backed up the truck on Google, Netflix, Tesla, and Amazon.
What about VDIGX? Dividend Growth Fund Investor Shares. Growth and dividend’s rolled into one.
There are other dividend paying stocks with great growth records and now that it’s mid year 2016 you can see the crazy results of Visa, Master Card, Costco and others. Many utilities and even Coca Cola looks like a growth stock the last 10 years with 108% increase.
Cherry pick or VDIGX?
I looked into Google, Netflix, Tesla, and Amazon and you have my attention. Visa and MasterCard out preformed all but Tesla. All 4 of your picks would have been great if I bought them in 2012 but aside from TSLA would you say these companies are now “young adults” with the big gains already made and less upside growth? (June 2016)
True, but the stocks with such high yields aren’t likely to keep them for long. In fact, it’s probably a cause of concern, since their share price may have recently crashed to cause such high yields. If the price decline was due to short-term market noise – that’s fine, but if there are significant underlying fundamental problems, it’s another story.
Overall, I agree with the point of view of the article. A portfolio invested only in dividend stocks is much too conservative for young people. But dividend stocks can be viable for diversification as you get older or as you begin to draw income from your portfolio.
Dividend stocks and REITs have collapsed due to a real fear that interest rates will begin it’s ascension towards normalization, whatever that level is. I don’t think rates are going too much higher over the next 2 years, but they will eventually go up.
Great insight Sam! I wrote something very similar for later this week about how I am leery of dividend payers right now with the speculation revolving around the Fed and rates. I think they have their place in a well diversified portfolio, but you’re right, the younger you are the more you should be leaning towards those growth stocks. This is, of course, assuming you’re doing you’re due diligence and being wise about what growth stocks you’re going into. Even as I am staring down the big 4-0 I am leaning towards growth stocks as I have a pretty high risk tolerance and have been able to do fairly well with them.
Nice John. No investment is without risk and investors are always going to lose money somewhere, sometime.
Good explanation of some differences between growth and dividend stocks, much better than a lot of other stuff I’ve read that just looks at charts and not the reasons behind them. I’m curious though, are there any historical examples or potential reasons you can think of that a growth company might choose to pay dividends rather than investing in R&D or something else?
Yes. When growth slows and there’s no better investment opportunities. Public companies answer to shareholders. Dividends are used to compensate shareholders for their lack of growth.
Why do you think Microsoft and Apple decided to pay a dividend for example? Feel free to write a post and prove me wrong! I always appreciate those.
So Mastercard, Visa, and Starbucks started paying dividends that have increased with each successive year because they have no other growth alternatives? Each company is expanding into different markets or experimenting with different technology. I’d argue that increasing dividends, even low ones like MA and V, is a vote of confidence in their own profitability. Tesla can’t pay a dividend because it’s burning cash like crazy. There’s a difference between speculation and investment. Musk is brilliant, but there’s an irony in the name he chose for his company. Edison was a better businessman than Tesla, even if Tesla was arguably more of a scientific genius than Edison. I’d agree that you’d be insanely wealthy if you accurately predicated and invested in each of these innovative disruptive companies as they emerge, but like you said, it’s incredibly difficult to beat the market by huge leaps like that Tesla example. Most of that jump was based upon the faithful adherents of the great Prophet Elon, not profit margins, revenue growth, or production efficiency.
Another indirect benefit of dividends is discipline. It makes firms accountable and tempers irrational M&As or ludicrous R&D projects.
I’m glad you advocate index funds. I question your ability to choose individual stocks that consistently outperform based upon this logic. Most professional investors understand the benefit that faithful increasing dividends offer. But you’re right if you’re looking for a homerun stock. Problem is that tends to go hand in hand with striking out. I imagine that’s why less than a handful of professional investors can consistently beat the market for any period of time. It’s probably also why the average retail investor vastly underperforms traditional equity returns.
I’m 36 with $700,000 in stocks, rest of my money elsewhere. I’ve owned dividend-payers like Boeing for over 15 years. Never sold and don’t plan to unless they decide to stop increasing their dividend, change their business model, or see their moat threatened. I would go to Vegas before I bought Tesla for even a month. I’m an investor, not a gambler.
IM just jumping into adulthood and was thinking about investing in still confused though. If you invest let’s say $1,000 in a stock and let’s say you have bought 20 shares and only make $0.40 a share every 3 months your making $32 a year which would take nearly 30 years just to make your money back
This my be true. But if you take then dividend and reinvest into the same stock it will take 1_2 that per say the compounding interest. In my understanding. I bought 100 shares. Pays .08 per 3 months 8 bucks a quarter and 32 dollars a year. It take I think I did math. 4 to 6 years to make money back . But if I buy more stocks I’ll make 100 more shares in 2to 3 years
Sounds great. Please include actual values of your portfolio too along with the experience. Helps highlight the case.
Dividend Mantra is a good case study/data point of achieving $110,000 through dividend investing by age 31. $110,000 is fine but it has significantly underperformed my growth focused 401k in the similar period.
The allure is that you don’t have to think as much with dividend stocks as they are usually well known companies with established businesses and large balance sheets.
Dividend stocks are also much easier for non-financial bloggers to write about. Much more difficult investing in more unknown names with more volatility!
Reading these comments (including Sam’s) from 2013 to now is interesting and, pardon me, funny. The most important words Sam said, in response to Jason at Dividend Mantra, was “in the similar period”. From 1996 to 2009 Dividend Mantra’s dividend investing formula wins – hands down. BUT, from 2009 to now (about the same amount of time) WOW – growth stock investing kills. But, who knew in 2010? Soooo who knows for certain about the next 13 years? Ans. Nobody. Not Jason, not Sam, nobody.
So, what to do? I agree with Sam. DEPENDING ON AGE, mix it up” – some growth stocks, some dividend stocks, some bonds, some real estate and some other alternative investing. Do any of these stand out for the long term? For me, an elderly man, probably real estate. And now, thanks to the Jobs Act, we can insert commercial real estate for the “common man”. Thanks Sam for emphasizing this relatively new opportunity. FundRise, CrowdStreet, and Equity Multiple. Check them out. Some great opportunities IMHO.
Finally, Tesla Tesla Tesla. Basta Ya. I clearly remember Enron Enron Enron. I know, Elon Musk is not Ken Lay but, again, who knows?
Happy to compare portfolios and net worth to dividend investors from 2013 or early and see how we’ve done.
If you have enough money to live your life the way you want, that’s all that matters.
Everything is rational when it comes to investing. Invest based on your goals and situation.
Thanks Sam for your prompt reply to my insertion into an old thread. I love your writing and reading all the responses. I learn from both as I’m sure you do.
Yes, from 2013 to now has been unprecedented, amazing, and weird – esp. 2020. Not a time to just be just a dividend investor, for sure.
There is a reason the SEC requires the following statement “past performance is no guarantee of future results”. I think that is a very good to remember.
Boy, this article on dividend vs growth stock investing touched a nerve. Was there any other article that got this much “heated” debate? Can’t remember.
PS Your new house is beautiful. I recommend, in the future keep it private. Take my word for it. I’ve learned the hard way. You can delete the PS.
There’s always lots of debate here for some reason.
See: The Proper Safe Withdrawal Rate: The 4% Doesn’t Make Sense Any More
The 1/10th Rule For Car Buying Everyone Must Follow
The Average Net Worth For The Above Average Person
Also, regarding the beach house, you’ll have to read this post to discover what really happened.
You have a very narrow view if you can’t see the message that dividend stocks are mature companies with much lower growth that won’t provide outsized returns.
Do you even have $100,000 in dividend stocks yet at your age? Hope you aren’t some 20-something year old with no formal training, living in the boonies spouting off why your way is the only way to go.