We believe that dividend growth investing is one of the most powerful investing strategies for building long-term wealth.
Our investing newsletter – the Sure Dividend Newsletter – provides detailed analysis of the 10 best high-quality dividend growth stocks trading at fair or better prices suitable for long-term investment each-and-every month.
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This article will explain how you can easily build a high-quality dividend growth portfolio with no prior experience.
Step #1: Choosing The Right Stock Broker
The methods that investors use to purchase stocks have changed tremendously over time.
Today, there are many online stock brokers with low fees that provide easy and affordable access to the financial markets.
When trying to choose a stock broker, the single largest factor (in our view) is fees.
We recommend using a stock broker that combines a history of stability with low fees. There are many workable options available today, including Fidelity, Scottrade, Robinhood, Ally, and Interactive Brokers, among others.
While your brokerage choice does matter, your investment style and strategy matters a great deal more in determining your long-term returns.
Step #2: Choosing Stocks or ETFs
The choice of whether to purchase individual stocks or exchange-traded funds (ETFs) has been hotly contested among investors in recent years.
On the one hand, individual stocks offer you unlimited portfolio customization potential and a real possibility of delivering market-beating returns. On the other hand, ETFs give you the capability to essentially match the market’s return in exchange for a fee.
As Sure Dividend, we advocate for taking long-term, low-cost positions in individual stocks. With a sound investing system, this provides investors with the ability to deliver excellent returns with lower risk and far smaller fees.
When you invest in individual stocks you don’t pay any management fees. Moreover, you know what you own which can be a psychological advantage. It’s far easier knowing you own shares of Wal-Mart (WMT) in a recession – and that Wal-Mart is very likely to be highly profitable throughout a recession – than it is knowing that you own tiny fractions of hundreds or thousands of securities that might or might not do well in a recession as is the case with ETF ownership.
Step #3: Finding Great Businesses to Invest In
Once you’ve chosen to invest in individual stocks, you must determine what businesses to invest in. We recommend investing in businesses of the highest quality, as measured by their dividend history.
All else being equal, a company with a long history of steadily increasing dividend payments is far a high-quality business. That’s we why we recommend investigating the Dividend Aristocrats – stocks with 25+ years of consecutive dividend increases.
The Dividend Aristocrats have delivered remarkable performance over time, outperforming the S&P 500 by 3 percentage points per year over the last decade.
Buying great businesses isn’t enough, though – they must be purchased at compelling prices.
With that in mind, the next section discusses how to know whether your business is trading at a fair or better price.
Step #4: How To Know Whether A Business Is Trading At A Fair Or Better Price
Two comparisons should be made to determine whether a company is trading at a fair or better price.
The first comparison is to its peer group and the stock market as a whole. Using financial metrics like the price-to-earnings ratio, the price-to-book ratio, and the price-to-free-cash-flow ratio, you should ensure that the company under investigation is trading at lower valuation multiples than other members of your investment universe.
The second comparison that you should make is historical in nature. You should make sure that a company is trading at or below its long-term average valuation multiples. The reason why this is important is because some companies – like insurers, banks, and other financials – persistently trade at cheaper multiples than other investments. This necessitates a historical comparison, rather than a peer group comparison.
Step #5: Buying Your First Stock
You’ve now identified a high-quality business trading at a fair or better price. Once your due diligence is complete, it’s time to buy.
On the surface, buying stocks can be just as complicated as analyzing stocks. It is not as simple as just pushing “buy” – there are a number of different order types available to investors, and each is useful depending what exactly you’re looking to do.
A market order is when you tell your broker “buy this stock at prevailing market prices.” Market orders are always the quickest way to buy a stock, but sometimes result in you buying the stock at a higher price than you’d wanted.
Conversely, a limit order is when you communicate to your broker “buy this stock, but only at or below a certain price.” Limit orders are usually not filled as quickly as market orders, but ensure that you will not buy a stock above a certain predetermined price.
We typically recommend using limit orders as price execution is a very important part of portfolio management.
Step #6: How Many Stocks Should You Hold?
You now have a solid understanding of the due diligence and trade execution that goes into purchases of individual securities. Ideally, you’ll repeat this process over and over again until you’ve accumulated a high-quality portfolio of dividend growth stocks.
This begs the question – how many stocks should the self-directed investor hold?
We believe that the widely-held notion of extreme diversification is mistaken. Investors do not need to own dozens and dozens of stocks to be appropriately diversified. We believe that no more than 20 stocks are necessary to achieve reasonable diversification within a self-directed investing portfolio.
Academic evidence corroborates our belief. In fact, according to studies cited by Morningstar:
“About 90% of the maximum benefit of diversification was derived from portfolios of 12 to 18 stocks.”
Repeating the process we’ve outlined above until your portfolio reaches approximately 20 stocks is an excellent way to build a strong group of high-quality investments that should do reasonably well over long periods of time.
Final Thoughts
This article outlined a systematic, step-by-step process by which you can build a high-quality portfolio of dividend growth stocks.
The Sure Dividend Newsletter makes this process very easy. The newsletter outlines our top 10 stock recommendations and provides detailed qualitative and quantitative analysis for each selection.
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