Make More Money by Doing Less

03/08/2011 10:01 am EST

Focus: MARKETS

Kelley Wright

Managing Editor, Investment Quality Trends

Most investors would do well to ignore the financial industry’s many calls to action and concentrate on dividends from long-term holdings, writes Kelley Wright of Investment Quality Trends.

In the classic book Reminiscences of a Stock Operator, the legendary Jesse Livermore wrote, “It never was my thinking that made the big money for me. It always was my sitting. Got that? My sitting tight.”

Today, there is an entire industry built around the notion that investing isn’t about sitting, it’s about doing.

For instance, if you watch any financial TV or listen to financial radio, you will be bombarded with commercials about currency trading, options, futures, etc. This is not to disparage the use of these techniques and devices. Investment professionals use them every day as they are useful and worthwhile tools.

For the average investor who is working hard at their chosen craft, who saves and invests in order to have a pool of capital and income stream to meet their future needs, trying to keep up and use everything that Wall Street throws at you can not only be intimidating but often ends in a painful loss.

A High-Quality Problem
By example, I received an e-mail recently from a subscriber who has done very well in oil and gas stocks. In fact, he did his homework so well that he is sitting on a fat capital gain and is enjoying ever-increasing dividends. Now he is wondering what he should “do” about his positions.

If you buy right—meaning when a stock is undervalued—there is nothing to “do” until the price rises sufficiently that it overvalues the current yield.

For those of you who are thinking that I’m missing the subscriber’s point, I know what his unasked question is: What if the market corrects and my stock price declines with the market? I will have lost money!

This is where you have to have some perspective. A gain isn’t tangible until you realize it. Until that point it is nothing more than a figure on a piece of paper.

This isn’t to say that the position doesn’t have value, because it does. The value is the in the cash dividend the company pays to the shareholder.

If the stock is purchased cheaply, it can take years for it to reach its full price, which means years of collecting dividends. If the stock is a blue chip, it is highly probable that the dividend will be increased, which means further price appreciation to reflect the value of the higher dividend.

Between cheap and overvalued, anything and everything will happen. Prices will move up, down, and all around. Do price gyrations affect the underlying value of the investment? No—the underlying value is the cash dividend.

As long as the company generates sufficient earnings to consistently maintain and enhance its cash dividend, the value to the shareholder will gradually increase with the passage of time.

Next: Dividends: The Canary in the Coal Mine

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Dividends: The Canary in the Coal Mine
Do good companies go bad? Of course—the history of investing is littered with examples.

In other words, the notion of perpetual buy-and-hold is nonsense. This is why we look at things like long-term debt-to-equity ratios, payout ratios and other measures of good value.

If a company begins to exhibit unusual behavior, pay attention. If the dividend appears threatened, it may be time to find another stock or at minimum put in a hard and fast stop loss.

None of the above is rocket science; I’d like to think it is just old-fashioned common sense.

Of course, everything I have written is based on the assumption that you have an investment time frame that is suitable for investing in common stocks. Ten years is good, 15 or 20 years even better. If you will need your investment capital in five years or less and you are invested in the stock market then you are taking a big risk.

Eventually, there is a time to sell. This is when the value has been wrung out. I know, it is hard to part company with a stock you have held for years. As Geraldine Weiss says, though, “stocks are like streetcars; another one will come along shortly.”

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