My Investing Journey with Passive Income and Stock Market investing

Month: August 2019 Page 1 of 2

What is Payout Ratio? Should you use it?

When you get into DIVIDEND INVESTING, you’ll run across a term called PAYOUT RATIO. To properly evaluate a companies ability to continue paying its dividend, you must learn what this means.

Essentially, payout ratio tells you how much of a companies earnings are paid out to its shareholders.

Visualize a pie. If the company gives you 25% of the pie, that leaves them with 75%. They can use this 75% to grow a bigger pie so to speak. Suppose a company gives you 98% of the pie, well that now only leaves them with 2% of earnings to continue growing the company. The higher the percentage of the pie they are paying you, the less they are keeping, the less they can increase the Dividend and the less ability they have to grow it as well.

This is why seeking high-yield investments can often be a bad decision. If it’s paying you 8% but you are getting 98% of the pie, then that company probably doesn’t know what to do with the extra cash. Most importantly, they have reached the ceiling for dividend growth.

Believe it or not, there are companies that are paying out more than they are bringing in, often easily spotted by payout ratios above 100%. It doesn’t take a rocket scientist to know that’s not sustainable. It’s worse than a negative pie, having nothing to eat.

I have found companies whose ability to pay the dividend depended on them selling equipment. What happens when they run out of stuff to sell off? This is why learning how to read a balance sheet is important as well.

How do you calculate this PAYOUT RATIO? The easiest way is as follows:

(Dividends Paid out to Shareholders/ Net Income ) * 100


Are there any problems with using this metric?

It turns out there is. A company can use accounting tricks to hide things with earnings and it’s net income that doesn’t tell you the entire story. In addition, dividends are paid out of CASH FLOW, not earnings. It is CASH FLOW that’s most important when it comes to dividends and the ability to grow it. For that reason, I will discuss how to calculate the CASH FLOW PAYOUT RATIO in another blog.

I often look at both the PAYOUT RATIO and the CASH FLOW PAYOUT RATIO, comparing them, looking for any discrepancies.

REIT’s are a whole other ballgame that are even more complicated. Payout ratios tend to be near 100% or over for a REIT. This is due to the Deappreciation that REIT’s are required to do, it messes up the calculation.

For REIT’s, one usually uses what is called FFO (Funds From Operation). I will go into detail how to calculate that in a later blog as well. For now, just understand, if a REIT has a payout ratio of 100% or more, don’t freak out immediately. There is more going on.

Earnings Reports coming up

I have a couple of earnings reports coming up here soon. The companies American Eagle Outfitters and Eaton Vance.

I believe both will beat earnings; however, I think American Eagle will most likely go down. Retail has been getting hammered here lately. It doesn’t take much to send it down.

Eaton Vance will go up I believe, it’s had a great run of earnings reports so far, even though it’s down on the year.

I also started a small position in Cummins which is a great dividend stock, ticker symbol CMI.

Keep an eye on Leggett and Platt as well over the next few weeks, it may present a nice buying opportunity.

Here is the youtube video I did about this topic:

Should you invest in Index Funds or Dividend Stocks?

I see many people advocating one or the other. These discussions often turn into us versus them battles. I can’t say I hold this mindset. I see no reason a person can’t do BOTH. That’s what I do and will continue to do.

For instance, I hold largely index funds in my retirement accounts and only dividend stocks in my brokerage. Why? Different goals require different approaches.

My retirement account goal is to capture the total return of the market. It is to build up my net worth into old age. It’s money I will not touch for 20 years. Index investing is easy to do and it doesn’t require lots of work or time. Mutual Funds and ETF’s are a great way to diversify as well for those not interested in researching stocks, looking at balance sheets and watching the market.

I own the Vanguard Total Stock Market Index in my Roth IRA; it’s done great since 2009. That was the only investment I had for over 10 years! I also added a REIT index and Intermediate Bond Index Fund to that account last year. I probably look at that account once every two months or so.

My Traditional IRA is slightly more active. I hold the Fidelity 4 in 1 fund in it. This is, in my opinion, a GREAT beginner investor fund. It’s already a bit diversified (equities, bonds, international). I also own the Fidelity Long-term bond fund and a Healthcare sector fund in this account as well. Besides the funds, I own two REITs, Kroger’s stock and Sterling Construction (a growth stock) inside my IRA. It’s a few levels above set it and forget. I like holding the REIT’s in my IRA because they spit out income that I can then reinvest within my IRA (even if I’m over the max contribution). Kind of a sneaky way of investing even more than normally possible 🙂

Lastly is my brokerage account. The most time consuming and perhaps the most fun (at least on the days it’s not going down!). The goal of my brokerage account is for it to become TODAY money at some point. My first goal is to generate $100 a month from dividends in this account. A longer-term goal is $500 a month. At some point, I’ll use the income from this account to pay bills and assist in my living. I’m self-employed and some months my income is better than others, dividend investing will help smooth it out. Since my goal is income, the index funds are not the tool for the job. I would have to sell them and depend on market conditions to withdraw.

I think of dividends as having a steady/consistent check. Sure, it requires initial research and reading balance sheets but once it’s done you don’t have to watch the markets every day if you don’t want (I usually do because i enjoy it). You can be a dividend investor and check in once every two weeks or so and still be fine. Perhaps even longer in the right environment. Some will argue that dividends can be cut and they are right but that’s why you do the best research you can and why you hold MANY stocks. If something goes wrong with one, the others are there to take up the slack. I own SEVENTEEN companies, some people own FORTY. I can’t EVER see myself holding that many stocks. Heck, I’ve had trouble finding 17 I want to hold long-term.

Anyways, I’m here to tell you, don’t ever feel like you have to choose. There is room for both in the world of investing. You have to search for your own goals and make a plan on how to reach them. Most importantly, whatever methods you pick, be consistent. That is the key to all of this.

Here is the video I did on this topic:

I sold something, I almost never do that!

So, this week I made the decision to sell off almost all of my Macy’s shares. This is the 2nd time I’ve sold Macy’s; I sold it once before when I was down 11% in it. This time I was down a whopping 30%. Fortunately, it was a minuscule part of my portfolio. This resulted in a loss of about $230 on the trade. I quickly took the money from the trade and put it into another company with better fundamentals.

Why did I sell Macy’s?

First and foremost, I believe the fundamentals changed for Macy’s. This is the second earnings report where the news wasn’t good. The Q1 earnings report was decent and the stock didn’t do anything except go down after that. This Q2 report was a big miss and it dropped 15% in one day.

Sometimes you need to cut your losses

Currently, I stand by my decision. It has continued to make new 52 week lows every day since I sold it. There’s no upward momentum here. In addition, Wall Street is not fond of the retail sector at the moment.

I thought it paid a nice dividend?

Yes, it did and now it pays an even better one. The yield is currently 9.36%, which is insane. However, I don’t invest for high yield or dividends alone. I don’t want an entire loss of capital chasing a dividend. What good is a 9% dividend if you’ve lost 50% of your stock? Even on paper. Remember if a stock goes down 40%, it takes more than 40% to break even. In the last month alone Macy’s has went down over 20%.

Most importantly, I fear if the stock keeps dropping there’s a chance they’ll have to reduce the dividend.

Waiting Game

I was no longer prepared to play the waiting game while Macy’s did nothing to my portfolio except decrease the value of it. I believe I made the right decision; however, only time will tell. If I made a mistake, I’ll be sure to note that on here in months to come. Currently, it looks like I definitely made the right choice selling half of it when it fell by 11%. I have other companies down 20% that I didn’t sell, so it’s not only a matter of negative total return; it’s a matter of company fundamentals.

I am not sure where I went wrong in the process. I felt like Macy’s could make a come back, that the new CEO would represent a good future for the company. It seems that is not the case, unless major improvements are made. I’m not sticking around to find out.

August-Dividend Income Breakdown

My August payout brought me one new dividend income stock. That stock is the DIVIDEND ARISTOCRAT, Eaton Vance. I currently have fewer stocks paying in August month than July so a slight decrease this month compared to last month.

Dividend Breakdown

Putnam Municipal Closed End Fund- $4.80

I purchased more PMM this month so this number will be higher starting next month. PMM pays me monthly.

General Mills-$10.29

General Mills was the very first stock I bought.

TLT-$3.17

I did sell a little TLT this month as I was up over 16% in it. I used this to buy more dividend stocks

Ennis-$24.30

Ennis is one of my top 3 stocks and one of my largest positions.

Kaiser Aluminum-$3.00

Eaton Vance-$10.50

TOTAL DIVIDENDS FOR AUGUST = $56.06

This group of stocks paid $24.70 the previous payment. So I have increased my total payout for this quarter by over 100%. I look forward to increasing my dividends further.
Traditional IRA account

TO BE REPORTED at the end of the month

Below you can see the progress my Dividend payouts are making. The blue line represents my brokerage account, the last point is this months payment. The yellow line represents the total amount (not calculated for August yet!). The red line is my IRA; this is largely index funds. I’m making good progress here. The most important part of any investment plan is to stay consistent. I’ve added to my portfolio each month since Novemeber, hence all of the growth.

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