The Mechanics of Money (Part 3): How I Invest

The Mechanics of Money Part 1 is the nuts and bolts on how I arrange my checking and savings accounts, here . Part 2 is about how I use credit cards here .

In The Beginning, You Save
While investing is important for one’s future, as mentioned previously , in the beginning, you save.  Namely, having money in the bank for monthly bills and an emergency fund is critical. Investing comes after one has some savings. That’s my view.

Getting Ready
I opened a second checking account at a different bank than my regular checking. This second bank was having a promotion where if one opened a new checking account, kept some minimum amount in it, then they would give me some bonus amount and not charge me any fees. So I took them up on the offer.

So after making this minimum deposit, I set up the ability to transfer funds between this new checking account and my primary checking account (see below).

My investing account
This second checking account is my “investing account.” This I use to purchase stocks, and and if I choose to get dividends in cash, where I have dividends deposited. I do not use this account for anything else.

All transactions to and from this investing account are done online. I do not need to use checks or deposit slips, nor do I need to go to a physical branch. In fact the only time I went to a physical branch about this account was when I set up the account. You might even be able to set it up online.

The reason I use a second checking account for investing is that originally when I used my primary checking account for investing, it was difficult to have a perspective on the needs for funds to pay bills vs. funds available for investment. So I found it extremely helpful to have this second checking account for investment purposes only.

Avoiding fees
If you do this route, be sure to check on potential fees. As it happened, when I was setting up the first transfer of funds I found that my primary bank wanted to charge me a fee to transfer funds from my primary checking to my investment account (when logged in to the primary bank’s website). However it does not charge a fee when transferring funds if the transaction originated from the investment account bank’s website. Go figure. So, of course, now all transfers into my investment account from my primary checking now get originated only from the fee-free side of the fence.

What to invest in?
Needless to say, the sheer volume of information and noise about investing is enough to overwhelm anyone. So my goal, when I finally decided I should do something about investing, was to find a plan and method that I found comfortable. I wanted to sleep at night, and not worry about the daily ups and downs of the stock market. I wanted to find a method to invest that would allow me to avoid panicking. I wanted to avoid the noise.

In various stories I had read, numerous people seem to sell everything when a stock market goes through a major decline. I did not want to be one of them. Stock markets go up and stock markets go down, so why let one event (a down market) make a major determination of my financial condition? Once the stocks are sold, I no longer own them. If I sold them for less than I bought them, I have lost money.

What works for me may not work for you. As they say on Wall Street, past performance is not a guarantee of future results. Maybe some day the stock market will go down and not come back up. Who knows? Assuming a normal course of events, I wanted to not worry regardless of the state of the market, I wanted to have something I could suspect I could rely one, I wanted something that would avoid the daily franticness of buying and selling.

Where to invest?
There are other places one could put one’s money beside the stock market. One can invest in real estate, one can invest in a pizza parlor, one can invest in pork bellies, the list is endless. You may have many other possibilities. I tried real estate, and did not like being a landlord. I scratched my real estate investment itch by owning some shares in a real estate investment trust, which is a subject for another day. (I don’t recommend starting with a real estate investment trust as an investment.) There is also something fairly new called “crowd-funded real estate investing,” which I have not tried yet. So for me, I determined that dividend investing was the right way to go. For me.

What is Dividend Investing?
Dividend investing is where I invest in companies that pay dividends. If the company allows it, one can use the dividends to purchase additional shares; this is often called Dividend Reinvestment Program (DRIP), or a similar name.

Why do people buy stock?
Most people buy stock because they hope that the stock price will go up and then they can sell it for more than they bought it for, making a profit (look up Greater Fool Theory). But many dividend investors do not buy stock with the hope the price will go up. Dividend investors look for continuing and increasing dividends, not stock prices.

I would contend that in general the stock of dividend-paying companies are more stable that non-dividend paying companies. Rational people may disagree. Just because a company pays dividends does not automatically make it a safe investment–that is true. One must look at the company and its history and its prospects. Some dividend paying companies could be in the verge of bankruptcy. So it is prudent to be discerning.

As usual, there are endless opinions about everything on earth, and this topic is no different. When I want to think about a company to invest in, I want to know that a company has staying power. So if we look at companies that have paid dividends for a long period of time, we can contend that those companies are likely in good shape. If they pay dividends for many years, they can be considered strong candidates for investing. Here is where one can find a list of companies that have increased dividends annually for at least 25 years (“Dividend Champions”) at the The DRiP Investing Resource Center: http://www.dripinvesting.org/tools/tools.asp This list is maintained and updated monthly by David Fish.

Just because a company is on any list does not automatically make it an ideal investment. Some of the reasons one may not want to invest in a company is that sometimes prices are considered too high and over-priced, or the company is paying dividends even if it is losing money, or any of a number of other reasons. And there are some industries I prefer not to invest in. Some industries make me nervous. Some companies are this year’s hot investment fashion only to fall out of fashion the next year. So while the Dividend Champions list is great, and is probably the best list around, and I own shares in some of the companies listed, I also own some shares in some companies not on the list.

Why I Invest in Dividend Paying Companies
The potential long term goal of many dividend investors is to grow one’s investments such that the dividends received can cover all or at least some of one’s expenses. That may not be your goal, but it is for many dividend investors. Covering expenses from dividends is not accomplished overnight. Many dividend investors expect to get to that stage before they retire, or by the time they retire. If it can happen before then, all the merrier. But, all things being equal, since dividends tend to increase, and are more stable than actual stock prices, it is possible to achieve. Some of the variables that make this possible is the amount of money invested and your time horizon. And if one purchases shares regularly, one’s ownership stakes, and therefore dividends received, all usually increase.

I wanted companies that have staying power. And I wanted to be able to invest in companies without needing to worry about whether I should sell every time I read the news.

Another reason I Invest in Dividend Paying Companies.
Once one invests in a company that pays dividends, assuming the company remains in business and continues paying dividends, one receives the dividends forever. It’s not like a job, where the financial condition of the employer is the most important factor in my employment. I could get fired, I could be laid off, the employer can run out of funding, a merger or acquisition could end the party, a million things could happen and often does. But a dividend is usually forever.

You may contend that being tied to an employer for salary is as tenuous as being tied to a dividend-paying company for dividends. I disagree. For one, investing in only one company is not prudent. Investing in a set of companies is much more diversified. If one company reduces dividends, or stops dividends, or even goes out of business, that is only one of many. If you own some shares in 30 or more companies, and any one hits the fan, you have lost 1/30th of your investment. Try working for 30 companies at once: couldn’t happen.

Another another reason I Invest in Dividend Paying Companies.
Aside from dividend going on forever is that dividends tend to increase over time. So in addition to dividends going on indefinitely, they usually increase indefinitely. Nothing is smooth, and many companies do not increase dividends regularly year after year. But the trend is positive.

Thinking about what to invest in
When I decide to invest in a company, I use my investing account mentioned above for all transactions. If I have enough money in the account, fine. If not, either I transfer funds from my primary checking. This way I always know the state of my investments and funds ready for investment.

For some stocks, I do monthly automatic investing of the same dollar amount, which is called “Dollar-Cost Averaging.” This means I automatically purchase a fixed dollar amount each month in certain stocks. The “averaging” means that since share prices fluctuate, I am buying the same dollar amount, not the same number of shares. For some other stocks, I buy some shares just a single time.

Use of Dividends
For most of the stocks I own, I have the dividends reinvested by having the dividends purchase additional shares in that same company. But for some companies I choose to get the dividends in cash.

Why do I choose to get dividends in cash from some companies and for others I use dividends to purchase additional shares in the company?
This is a matter of opinion and choice. If I feel that a company is a good prospect for future growth, then I usually stick with reinvesting dividends. If I feel a company is not growing or is over-priced, I will sometimes get the dividends in cash. Cash received into my investing account becomes available to use to purchase shares in other companies. Once in a while I will change my determination and switch how I use a company’s dividends.

What does it mean for a stock to be over-priced?
There are many ways to “measure” a stock, and there are endless criteria one could use. There is (at least) one measurement that indicates the relationship between the share price of a company and the company’s earnings. It is known as the price-earnings ratio, also called P/E Ratio (or just PE). This is a large topic worthy of its own research, but suffice it to say that most people think that when the P/E ratio is below 20, the company stock is fairly priced, and over 20 is over-priced. Not everyone agrees that this number is always significant. But if you look at the stock market, many times many good companies have P/E ratios over 20 and sometimes way over 20. So the number 20 is a nice thing to know about but not the only thing to consider.

What kinds of companies to invest in?
This is an individual choice. No guidance from me or anyone else can be right for everyone. But I like stable, boring companies. The latest hot-shot companies making oodles of news can easily be outdone the next year by some competitor or problems of their own making. In fact, some companies that are in the news constantly are not really profitable, and many do not pay dividends.

I like companies that have been around for a long time. (See David Fish’s list.) People will likely always need things like toothpaste, food to eat, soap, band-aids, certain kinds of insurance, etc. All things being equal, the basics provide a stable economic base. That’s my opinion. You may have a different one.

Investing methods
There are likely two main approaches that dividend investors use to buying shares. One is to make an outright purchase of shares. The second method is to purchase monthly using an automatic withdrawal from your account. The choice is yours. Both have their advantages and drawbacks.

Purchasing outright is simple. The easiest way is to use an online broker. Fees are minimal if you choose carefully. In fact, these days there are some online brokers that allow you to invest without fees; you should investigate before you invest. One needs some amount of money to purchase a fair amount of shares outright.

Automatic monthly investing usually requires less up-front money. In fact, less than one hundred dollars can make you a shareholder in any one of many blue chip companies. And it can often be done directly through the company’s transfer agent. This method is often called Direct Stock Purchase Plan (DSPP).

When purchasing monthly, one usually ends up owning fractional shares. This is common and expected, but can be a little off-putting at first. This, however, is common and normal.

What is a Transfer Agent?
“Companies that have publicly traded securities typically use transfer agents to keep track of the individuals and entities that own their stocks and bonds. Most transfer agents are banks or trust companies, but sometimes a company acts as its own transfer agent.” From: https://www.sec.gov/fast-answers/answerstransferagenthtm.html

I use the transfer agent method for many of my share purchases. I receive a statement quarterly from the transfer agent on the status of my shares for each company, how much dividends were received, how many shares were purchased, fees paid if any, etc.

How to Find Out Who a Company’s Transfer Agent Is?
The simplest way is to check the company’s web site. Often there is a link to a page entitled Investor Relations or similar name. Check the pages there.

A Plan
If the company has allowed the transfer agent to do so, one can use the dividends to purchase additional company shares in a Dividend Reinvestment Program (DRIP), or a similar name. (Also available through some brokers.) Using dividends to purchase additional shares is a great way to increase the number of shares owned without an additional outlay of cash. At the beginning, the dividend amounts are small, so small amounts of fractional shares are purchased.

Getting dividends and investing
You should also be aware that dividends are usually paid quarterly, but automated purchases are monthly. So be sure to adjust your calculations when determining how much cushion you need to maintain in an bank account to avoid an insufficient funds condition.

You can also browse the major transfer agents’ websites. The three largest transfer agents are:

Computershare:    www.computershare.com
Wells Fargo:    www.shareowneronline.com
AST Financial:    www.astfinancial.com

How to buy shares when I know the transfer agent?
Once you have identified the transfer agent, use the transfer agent’s website to search and find the plan for the company you are interested in. Check if you can purchase shares through the transfer agent. Read the plan document(s). The documents will tell you whatever minimums there might be, any fees, and other details. It will also indicate whether there is a DRIP plan.

Along with the plan documents, there will be a form to fill out should you wish to begin investing in that company. Sometimes you may need to print a form, fill it out, and mail it back with a check, but usually you can accomplish investing all online, and give your checking account number and bank’s routing number (these are the numbers on the bottom of your check). Money can be transferred automatically from your checking account.

When you fill out the form, you indicate whether you want a one-time purchase, or ongoing monthly purchases, or both. If there is a DRIP plan, you indicate what you want to happen with your dividends, such as invest all in additional shares of the company, or send you the dividend (direct deposit back to your checking account).

In a few days, you should receive your first statement from the transfer agent that your account is set up.

What you need to know when purchasing through a transfer agent.
When you purchase through a transfer agent, you do not have control over when the purchase occurs. They have their own schedule. When you put in an order, it may be several days before the transaction occurs. Therefore, using a transfer agent is for long term investors. So if you are in a hurry to purchase shares at a certain price or on a certain day, do not use a transfer agent. Similarly, if you want to sell at a certain price or on a certain day, do not use a transfer agent. Use a broker if you want specific expectations.

So what is the use of a transfer agent if you do not have control over time and day to buy and sell?
Some of the advantages are: usually low fees, usually you can often invest small amounts of money, you own the shares directly. Sometimes there are no fees, sometime fees are minimal, sometimes fees are surprisingly higher than you might expect. So investigate first. Many times you can invest in much smaller amounts of money compared to a broker; check first before you start.

When you own shares through a transfer agent, you own them directly. The company has you listed as the share owner. When you purchase through a broker, the broker purchases the shares for you, and the broker is listed as the owner; the broker holds them for you. (This is the origin of the term “street name.”) While it may not make much difference in most cases, essentially you must deal with the broker to do anything with the shares. And some brokers have surprisingly high fees for doing anything other than buy or sell.

Alerts
Because the bank with my investing account has this feature, I set up alerts for the investing account to send me a text alert for every deposit and every withdrawal. These allow me to keep up to date on all transactions without needing to log in to the account daily to check what if anything has transpired.

Keeping track of my investing account balance
Using these alerts, I maintain a spreadsheet file with the exact deposits (the dividends and transfers in) and the withdrawals (stock purchases), so I know the exact amount in the account at any time.

You can download a copy of the spreadsheet I use to track my investment account balance AccountBalance.xlsx on the Downloads page here.

Keeping track of stock ownership
In addition to keeping up with the balances in my investing account, I find it advantageous to keep track of my stock ownership transactions. I use a separate spreadsheet for this.

This investment spreadsheet has one page for a summary, plus one page each for each company I have invested in.

You can download a sample of the StockSpreadsheet.xlsx on the Downloads page here.

What else about dividends?
As mentioned, just because a company pays dividends does not automatically make it a superior investment. In addition to the state of the company, the actual dividend might be too low to make a difference for your investing future. Or it may be too high–a very high dividend is usually unsustainable and is often an inducement for the unsuspecting to purchase shares just before a major negative event. Or the dividend increases over time may have been minimal, indicating less management confidence in current and near-term company performance.

No Sale?
Most dividend investors do not expect to sell the stock they have purchased anytime soon. Because once one sells stock, not only do you no longer own the stock, you no longer receive the dividends from that stock. Since the goal usually is to have dividends cover one’s expenses, then selling one’s stocks becomes counter-productive. In addition, selling stock usually means paying tax on the gain.

Alternate views welcome
As we know, many people panic when the stock market declines. Some people get disgusted and fearful when a major decline occurs, and sell everything. Everyone has their own ideas and reactions, but those who panic usually lose. So I wanted to find an investing strategy that held me back from panic selling.

Time In or Timing
There is saying “Time in the Market Beats Timing The Market.” This refers to the concept one will have better results by staying invested through thick and thin as opposed to trying to figure out when to get in and when to get out. A dividend investor in it for the long term generally stays invested regardless of the ups and downs of prices.

Can Down Markets Be Good Markets?
During market downturns the dividend investor will incur some of their best investments. Why do I say that? It is because when stock prices are low, reinvested dividends will buy more shares for the same money than when prices are high.

Hold forever?
As the saying goes “forever is a long time.” It’s not a bad goal. If the goal is have one’s dividends cover one’s expenses, then the actual stock price, once you own the stock, becomes less of a concern. When initially purchasing stock, the price is important because one does not want to overpay. But once one owns some shares, the daily fluctuations can almost be ignored.

This is not to say that one ignores significant changes in a company’s fortunes. Dividend investing does not mean sticking your head in the sand. It does mean can remove yourself from all the daily screaming and yelling normally heard on Wall Street and on cable news and on TV.

To hold indefinitely means that one should never expect to make a “big score” from this kind of investment. Nor should one invest money needed or that might be needed for other purposes.

You mean never, ever sell?
I don’t want to be an absolutist, but I intend not to sell the primary dividend stocks I own. I cannot say what the future holds, so I can never say never. Perhaps there will be some cataclysmic event that changes my opinion.

What you need to know about dividends and taxes
Two facts. Firstly, dividends received are taxed, regardless whether you get the dividends in cash or you use the dividends to invest in the same company or a different one. Something you should know. Secondly,  most dividends are taxed at a lower rate than regular income from a job. This is the way it is. There may be some rationale to that fact. But suffice it to say, it is something to know about.

The point
This post about investing just scratches the surface of the topic. Choosing which companies to invest in, determining if a dividend is sufficient enough to make the effort to invest, determining if a company’s stock price is not over-priced, determining if a company’s dividend has staying power… all of these are large topics.

Where to learn more
I find the following blogs helpful on learning more about investing in general and dividend investing in particular.

Dividend Growth Investor:
http://www.dividendgrowthinvestor.com/

The Conservative Income Investor:
http://theconservativeincomeinvestor.com/

There are many other resources. Hunt around and find the places you feel most comfortable.

The usual caveats apply
Take your time before spending any money until you are ready. Ignore anyone who will tell you the “secrets” of investing, or offer to set up a “plan” for you. Take the time to learn. Time is on your side if you let it.

What is your investing strategy and experience?

The Mechanics of Money Part 1 is the nuts and bolts on how I arrange my checking and savings accounts, here.  Part 2 is about how I use credit cards here.

The post The Mechanics of Money (Part 3): How I Invest appeared first on Smile If You Dare.