Timing high dividend stocks doesn’t work

One of the things I love about investing is the opportunity to constantly learn and become a better investor. Your results are strongly driven by the time and effort you put into the process. In the past few months I’ve been researching an interesting idea I had. Two posts drove this idea. In this post, I discussed the power of dividends as a bear market protector or return accelerator. In other words, dividends enhance returns in down markets. In another post, I presented a market timing system that not only produced better returns but also lowered volatility compared to a buy and hold system. My thought these last few months has been, timing works on market wide indexes but does it work on individual high dividend stocks? Lets find out.

The power of significant dividends really becomes obvious in down markets. When prices are down and you re-invest dividends, you buy more shares, and thus enhance future returns. However, this volatility in prices can be frightening for investors. Thus there is a lot of interest in a timing system that can lower volatility significantly and at the minimum keep returns the same. A system based on the 200 day simple moving average (SMA) does exactly that. My concern was that in the timing system an investor is out of the market for significant periods of time, mostly in down markets, and being on the sidelines would cost the investor something in terms of re-invested dividends. Obviously, the results of the timing system on the indexes outweighs any negatives of being out of the market but what about individual stocks with high dividends and/or high dividend growth? As an individual stock investor, who does not invest in indexes at all, this was of particular concern to me.

I analyzed three individual dividend stocks; EPD, KMP, and JNJ. I took historical price data, including re-investment of dividends, and tracked a buy and hold approach vs a 200 day SMA timing system to see what the total returns would be. The results of my analysis are presented below. The table shows compound total returns and the results of $1 invested in each stock starting in the year listed in the ‘since’ column.

As the table shows, buy and hold (B&H) in the case of each of these 3 stocks trounces the timing system. In each case, missing out on re-invested dividends, particularly in down markets, costs the investor dearly. And the difference compounds over time. In the case of JNJ, the difference over time shows up as a difference of about 5x in total dollars! Also, as in the index results, timing the individual stocks does reduce volatility but in this case the price to pay for the reduction of volatility is too high in my opinion.

While these results are by no means rigorous my guess is that there is some threshold in terms of dividend yield and/or dividend growth that makes a timing system based on the 200 day SMA ineffective. In the case of these high dividend stocks, volatility is an investor’s best friend. While a lot more research would be required to make any firm conclusions I think the results are indicative. What I have decided to do for my portfolio is to run an analysis for each of my holdings and see where timing may make sense. So far I haven’t found a stock in my portfolio where timing would be worth it. I would encourage dividend investors to do a similar analysis before applying timing to individual dividend stocks.

Full Disclaimer - Nothing on this site should ever be considered advice, research or the invitation to buy or sell securities. These are my personal opinions only.

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6 Responses to Timing high dividend stocks doesn’t work

  1. Doug says:

    One long time dividend investor that I know follows a discipline that buys the high quality dividend payer when it is off 25% from it’s 52 week high and sells it when it has risen 10%. Many follow this system and it would be interesting to know if this would beat buy and hold. I have no idea how to back test this or i would and gladly publish the results here.

    Thanks for the great blog!

    • libertatemamo says:

      Hey Doug. That seems more like a trading strategy to me then a long term investing strategy. Seems to me one would be out of the market a lot, unless the stocks you buy are really low volatility, or one would be subject to a lot of buy/sell decisions this increasing turnover and trading costs.

      Trading is fine, I do it myself with a portion of my portfolio but I consider it separate from the really long term portion of my portfolio. As for trading strategies, there are a ton of them. An investor needs to find one(s) that fit their personality and styles more than anything else. I like selling options as my primary trading strategy – it works for me.


  2. Mark says:

    great post Paul. I haven’t heard a good B&H rationale in many years, but I think you’ve found one in this case. You’ve probably mentioned this before somewhere (apologies if so), but do you pull your living cash (4% or whatever) out of cash reserves and let all the dividends reinvest (in DRIPS or whatever) or some other strategy. Thanks for the good work on the blog. Very helpful =)

    • libertatemamo says:

      Mark, its is a really compelling reason and it sure makes me feel better when the market takes a dive. I just think of how much cheaper I’m buying shares and how my future returns are improving.

      You’ve hit on a point I’ve been doing a lot of work on recently for my portfolio. Currently, I pull my living expenses out of cash and I re-invest all dividends of my stock holdings. My strategy is to keep a good portion of my portfolio in cash (to take advantage of really big down swings when they come) and use income generating strategies, like selling options, to try and generate enough income off that cash to pay for my costs for the year.

      Obviously, this is very different from just living off the dividend stream. I’m trying to have my cake and eat it too. My concern is that cash on the sidelines represents a pretty big opportunity cost, especially now. The only way it makes sense is if I generate enough income off that cash to at least get what I would get if I just invested it in good dividend payers. Actually, it has to be more since it is a bit riskier.

      I plan to post some thoughts on this soon but it is definitely a work in progress.


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