I do extol the simplicity of dividend investing, but is it a set-and-forget kind of thing?
First, What is ‘Set And Forget’?
The idea of ‘set and forget’ is to put something in motion, and then not deal with it, let is run its course semi-indefinitely. The term originated from a late-night infomercial for a rotisserie.
And Many Other Things, Too
The concept of ‘set and forget’ is nowadays used for all sorts of things, such as foreign-exhange currency trading, meat smokers, rotisseries, hydroponics, on-line marketing platforms, affiliate marketing, and yes, even stock investing. Confusion abounds!
Well, What About Dividend Investing
Let’s consider how dividend investing works. First step, buy some dividend stock and (in most cases) set the account to reinvest dividends. Second, go about one’s life doing something else. Each quarter, let the dividends buy more shares. Seems quite like the idea of setting it up, putting it on auto-pilot, and forgetting about it.
Close, But Not Quite
While the basis of dividend investing has a hands off approach once getting started, for me there are several things that I pay attention to that can affect my approach. Here are some: Price/Earnings Ratio, Dividend payout ratio, Company prospects, Potential acquisition.
Let’s look at each.
1. Price/Earnings Ratio.
Price/Earnings Ratio (PE) is a common way to gauge the relationship between price of a company’s stock and the quarterly company earnings. While not a perfect measure, it is commonly used. Some previous posts about PE are here and here.
As of this writing, the current S&P 500 PE is about 29, which is somewhat high. The mean and median of historical PE ratios of the S&P 500 is between 14 and 16. It is commonly thought that 20 is a good demarcation between good and too high.
I consider the PE of a company when determining where to buy a stock. While i usually let my automatic dividend reinvestments continue unabated, but if the PE gets extremely high (say, over 40), I switch to receiving the dividend in cash until or unless the PE comes down.
2. Dividend payout ratio.
While it is not unusual for the payout ratio of large established companies to fluctuate, and even surpass 50% or 60%, anything approaching or exceeding 100% is a danger signal. Some times a high payout ratio exceeds these norms for a short time, but there is a limit how long a company can persist in paying dividends that eat most or even all of its quarterly earnings. A too-high payout ratio for too long could signal an impending dividend cut.
3. Company prospects.
This is admittedly a subjective analysis. If I consider a company to have poor prospects, I will switch to receiving the dividend in cash until or unless the situtation changes.
4. Potential acquisition.
When a company gets acquired, monumental changes occur. Sometimes shareholders are offered cash or stock in the acquiring company. Most of the time, there is no choice, and we must accept what we are given. Most of the time, I just continue with the acquiring company. However, there is always the consideration what to do. If it is an all-cash offer, I have the opportunity to deploy that cash as I see fit. There is also the consideration that I might sell. If the acquiring company is not a good investment, I may sell. I don’t want to own the stock of a company that I would not purchase on my own.
The Bottom Line
So although dividend investing seemingly is a set-and-forget kind of thing, there are always things to consider. I set it, but I don’t forget it.
How do you manage your dividend investments? Let me know here.
Larus is kind of gull. The illustration is from Volume 1 of “Natural History of Carolina, Florida, and the Bahama Islands: containing the figures of birds, beasts, fishes, serpents, insects, and plants: particulary the forest-trees, shrubs, and other plants, not hitherto described, or very incorrectly figured by authors. Together with their descriptions in English and French. To which are added, observations on the air, soil, and waters: with remarks upon agriculture, grain, pulse, roots, &c.”, by Mark Catesby and George Edwards, in 1754. Courtesy Biodiversity Heritage Library at The Smithsonian Institution.
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