The Simply Investing Dividend Podcast

EP49: Rebalancing Your Dividend Stock Portfolio

September 13, 2023 Kanwal Sarai Season 2 Episode 49
The Simply Investing Dividend Podcast
EP49: Rebalancing Your Dividend Stock Portfolio
Show Notes Transcript Chapter Markers

Concerned about rebalancing  your dividend portfolio each year? Not sure how to proceed? In this episode I show you  conventional wisdom's take on rebalancing, and why that might not be the best option for you. As dividend investors we need to think differently about rebalancing our portfolios.

What I'll share with you in this episode:
- Why rebalancing  ?
- Conventional wisdom's take on rebalancing  
- Don't follow conventional wisdom
- How $39K investment in SJM returns $9.3K/yr in dividends
- How to re-balance your portfolio

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Speaker 1:

In this episode, I'm going to show you how to rebalance your dividend stock portfolio. Hi, my name is Kanwal Sarai and welcome to the Simply Investing Dividend Podcast. In this episode, I'm going to cover four topics with you. The first topic is why do we need to rebalance our portfolio? The next topic what is conventional wisdom? What does conventional wisdom have to say about rebalancing your portfolio? And then I'm going to explain to you why I don't suggest that we follow conventional wisdom. Instead, I'm going to give you my suggestions on how you should be rebalancing your portfolio. So let's start with topic number one why do we need to rebalance our portfolio at all? So, before we begin, I just want to give a reminder to everyone this episode, and pretty much all of my episodes, are always focused on long-term dividend stock portfolios. So we don't get into talking about day trading. We don't talk about stocks that don't pay dividends and how to handle those and how to rebalance that. I'm not covering that in this episode here. This episode is specifically targeted towards investors, do-it-yourself investors who are long-term dividend investors. So let's get started. Why should you rebalance your dividend stock portfolio? And the biggest reason is to lower your risk. So let's take a look. So let's say we've got a sample portfolio up on the screen here and I'm going to keep it really simple. I'm going to, in this example, I'm going to stick with just 10 stocks. I know in reality people will own multiple stocks in multiple companies, but for this episode I want to keep it simple and so we're going to just look at 10 companies and I'm going to call them stock A, b, c, d, E, f and so on, and you can see them listed up on the screen here. And then, to keep it even more simple, we're going to assume that each stock is in a different sector. So we have a like company A is in healthcare, company B is in finance, we have technology, energy, consumer staples, utilities, media, real estate, consumer, discretionary and industrial. Okay, so again, I know in real life you would probably have multiple companies that you would be invested in that are in healthcare, or maybe multiple companies in real estate or industrials. In this example and in this episode, we're going to stick with just these 10 companies and we're going to assume that each company is in its own sector. Okay, so we've got 10 companies and we've got 10 sectors. Now let's say you were to invest $100,000. Okay, so you were going to invest that today and you would put that into, like in this example, $10,000 each into each company and into each sector. So you can see that your total amount invested is $100,000. You can see that on the screen. And you've equally divided that $10,000 increments into each of the 10 companies in each of the 10 sectors. So when we take a look at the sector allocation, you're going to see that it's equally divided amongst the 10 companies. So you've got 10% of your total portfolio invested in healthcare. You've got 10% of your total portfolio invested in finance and so on and so on. So you can see it up on the screen. We've got 10% in each of the sectors and you can see at the bottom the total is 100%. So generally, when you start to invest so if you're going to start with, let's say, $100,000 or $50,000, or $200,000, generally you're going to invest that money equally among the different sectors. Okay, so this is what a like we're going to stick with our example here. So this is what this sample portfolio looks like. So when you look at it graphically, like in a pie chart, you can see that it's a nicely divided pie chart. It's divided exactly into 10 equal pieces. Each piece represents a sector and each piece represents 10% of your portfolio. Now in the Simply Investing platform, we show you that as well. When you enter in your stock holdings, we show you with a pie chart or a pie graph, and you can see how your portfolio is distributed amongst the sectors that you own. So this is a ideal portfolio. In this example and you can see it up on the screen, it's a nice graph it's equally divided and this portfolio is. It's got good diversification and it's well balanced. You're not going to see this ever again. This only happens when you first start investing, right, like in this example. We're assuming the person started with $100,000, and they equally divided it amongst the 10 companies, and so they have a well-diversified portfolio. It's well balanced. What's going to happen in real life over weeks, months, years and decades? Because stock prices go up and down all the time and different sectors are going to be up or down. They go in their own cycles. You're going to find that over time, when you come back and look at your portfolio, it's not going to be equally distributed. Okay, it's going to look something like this. So in this example and I've taken an extreme example, but we're going to assume that over many years, the persons come back to this portfolio. Now, let's say healthcare all of the healthcare stocks are up, all of the stock prices have gone up, and so now you can see here on the screen 55% of this portfolio is now in healthcare stocks and another 25% is in energy. So I know this is an extreme example, but I want to show you what an extreme example looks like. And so now when you look at the pie chart, it looks very different. You can see the big blue area that represents healthcare, and it's 55%. So more than half of the portfolio is now in healthcare because all those stock prices have gone up and maybe the other stock prices went down right, and 25%, which is another big chunk of the portfolio, is now in energy stocks. So now when you look at this, and if anyone else looks at it, they'll see immediately that this portfolio is not balanced anymore. It is not well diversified. Okay, so now let's take a look at what conventional wisdom has to say about that. And so what they will tell you is that every year, when you come back and look at this portfolio, if it's not balanced, you should rebalance it. And what conventional wisdom is going to tell you is you should. In this example you can see on the screen, you should probably sell some of your healthcare stocks, some of your energy stocks, and reinvest that money into some of the other sectors so that again you can try to get back to this, which is kind of like you want to get back to an equal distribution. Okay, so you want to get that nice pie chart divided into 10 equal parts. You could certainly do that if you want to. That's what conventional wisdom says. If you're over-weighted in one sector once a year, go in there and sell those stocks and reinvest it into other areas where you're underweight, instead of being overweight in those sectors. Now I'm gonna suggest to you that we maybe don't want to follow this conventional wisdom. And the question is why? Why not? Because everybody else is doing it and that's what everybody else is teaching. So why don't we want to do that? It's because our highest priority is dividend income. So we are dividend investors. Our priority is dividend income, before we even consider the stock price. Right, stock price could be a priority, but I would suggest to you it's a lower priority. The highest priority is dividend income. We want to build, over time, a dividend stock portfolio that's going to generate dividend income for you, because it's that dividend income that's going to cover your expenses in the future. Now I have some students who are making 20, 30, 40, 50, 60 thousand dollars a year in dividend income, because they made dividend income their priority from day one, and that's what I want you to consider. So, because our priority, our highest priority, is dividend income, we need to think differently on how we rebalance our portfolio. But first let's give you one example here. So I'm going to start with this example with the JM Smucker company. You might recognize some of the brands up on the screen here. The company was founded in 1897. So let's take a look at this example. Let's say you invested 39,600 dollars in this company back in 1999. So if you did that and you held on to the shares and you didn't sell any shares, you didn't buy anymore, you just held on to the shares Today this company would be providing you with over 9,300 dollars in dividends. Now, for those of you that are interested, you can see the dividends on the screen here. I'm just going to probably let's move this over so you can see it. There we go, so you can see, in 1999 the dividend per share was 63 cents a share, and then you can see the dividend. Today, the company is paying a dividend of $4.24 a share, and so you can see the total which this year, if you hold on to those shares this year, you would earn $9,328 in dividends. Okay, so let's move this back and let's go on to our next slide. Now, before we move on, I just wanna mention here that this company, jm Smucker, has had 26 years of consecutive dividend increases. So this is important. So I'm gonna say it again 26 years of consecutive dividend increases. Think about how many market crashes we've had in the last 26 years, how many recessions we've had in the last 26 years. But this company has continued to increase its dividend year after year after year. And every time the company increases its dividend, that's more money in your pocket, because, as a shareholder, you receive those dividends based on how many shares you own. So if the number of shares you own doesn't change over time, but the dividends keep increasing, you are gonna get more dividend income. So take a look at this. You really need to think about dividend stocks that you own. Each and every one of those dividend stocks is a stream is providing you with a stream of dividend income. Okay, in this example, this company is providing a stream of dividend income which is over $9,300 a year. Some companies you might make just $500 a year, maybe $1,000 a year, maybe $10,000 a year, but every dividend stock is providing you with a stream of dividend income. So remember what conventional wisdom was saying when you're overweight in a stock, just sell those shares. What happens when you sell shares in dividend stocks? You cut off your supply of dividend income. Okay, so we don't wanna do that. As dividend investors, remember our highest priority is dividend income. So we don't wanna cut off that supply of dividend income, especially because dividends are consistent and reliable. Stock prices go up and down all the time, but we have companies like this which have been increasing dividends consecutively for 26 years. We have Coca-Cola that's been doing it for over 52 years, consecutively increasing their dividend. So dividends bring consistency and reliability to your portfolio. So why would you ever wanna sell high quality dividend stocks that are growing their dividend every year? Why would you wanna sell that? For the sake of rebalancing your portfolio. So now let's take a look at the last topic, which is how to rebalance. If you wanted to rebalance and if you were, I should use the word. If it was very important for you to make sure that your portfolio was rebalanced, then how do we do it? So I'm gonna suggest to you how to do it and I'm gonna suggest let you know how I do it myself, which, in my opinion, I think is a better approach. So let's go back to the portfolio we were looking at earlier and so you can see, it's the same portfolio Over time. This individual now has 55% of their portfolio in healthcare, so they're over-weighted in healthcare. They have 25% of their portfolio in energy stocks, so they're over-weighted in energy, and then the rest of the sectors you can see is just small portions 3% here and there. Here's what I'm going to suggest to you when it comes time for you to invest so it could be once a year, maybe twice a year, maybe three times a year when it comes time for you to invest and you've got additional money to invest, or you've had dividends that you've been collecting for a while and you've got, you know, $5,000, $10,000 cash sitting in your account and you want to reinvest it. So here's what I'm going to suggest. So in this example if you can see it on the screen here. This person is overweight in healthcare, overweight in energy. So number one don't buy any more stocks right now in healthcare for this individual in this example. So don't buy any more stocks in healthcare because you're already overweight in that one. You've got enough coverage there. Number two probably don't buy any more stocks in energy companies right now. Again, just for this example on the screen. So what I would suggest in this example take a look at some of the other sectors where you're underweighted. So finance, technology, utilities, real estate. So if you have money to invest for this person, then that's where they should invest their money in in some of the other sectors. So what's going to happen over time and this does take time, so it takes years, sometimes decades Over time. If you continue to do that, whenever you are ready to invest or you've got new money to invest, you put that into sectors where you're underweighted and the overweight one, you leave them alone. Again, as long as they're quality companies and as long as they're paying you dividends, you leave them alone because you don't want to cut off that supply of dividends. So what you want to do is any new money should go in the other sectors and then over time, slowly, your portfolio. You'll see, because I've been doing this for over 23 years over time, naturally, the portfolio will start to balance itself out. You will have good diversification, because we always want to diversify. So, of course, if you have, for example, no stocks in utilities completely, then next time you're ready to invest, take a look at some utility stocks that are price low and are quality stocks. Then take, invest in those. So over time, your portfolio will balance itself out. It's never going to be perfect. Take a look at on the screen here. This portfolio is not perfectly balanced, but it's good enough, right? This person has 10% in health care, 11% in finance, 9% in technology, 12% in energy, 8% in consumer staples. So you see the numbers are not equal. They're not 10%, 10%, 10%. They're 8%, 9%, 10%, 11%, 12%. It's never going to be perfect, but this is close enough. So if you can get 80, 85% of the way there, that's good enough. So what I'm going to leave you with one final thought is you need to be patient. You need to be patient in the markets and you need to be patient with yourself. So it's going to take time, it's going to take years to eventually build a portfolio that is, like I said, 80% of the way there. That is, approximately well balanced and well diversified. So don't panic when you look at your portfolio at the end of the year and you seem to be overweight in one sector. That's fine Again, if they're quality stocks and if they're paying you dividends. Be patient, and that is all I can say here. Just remain calm, be patient. And stock prices go up and down all the time, so that also changes. You could look at your portfolio today and maybe all of the energy companies are extremely overvalued and the prices are all high and the portfolio doesn't look like it's well balanced. And then you can check it next week and it could be the complete opposite. So stock prices go up and down all the time. Remember our highest priority is dividend income first. So my approach to investing and what I teach is to teach you how to build a long-term dividend stock portfolio safely and reliably, regardless of what happens in the stock market and regardless of what happens to stock prices. So how do we do that? We invest in quality dividend stocks when they're priced low. So not just any stock, not just any dividend stock. It has to be a quality stock and not just at any price. It has to be priced low. So how do you know, when you're looking at a company, that it's a quality stock and it's priced low? So for that I've created what I call the 12 rules of simply investing. This is essentially your checklist. A company has to pass all of the 12 rules before you invest in it. So even if it fails one rule, skip it, move on to something else. So for those of you that are watching, you can see the 12 rules up on the screen. For those of you listening, I'm going to go through those right now. So, rule number one do you understand how the company is making money? If you don't, skip it, move on to something else. Rule number two 20 years from now, will people still need its products and services? Rule number three does the company have a low-cost competitive advantage? Rule number four is it recession-proof? Rule number five is it profitable? Rule number six does it grow its dividend? Rule number seven can it afford to pay the dividend? If not, skip it, move on to something else. Rule number eight is the debt less than 70%? Number nine avoid companies with recent dividend cuts. Rule number ten does the company buy back its own shares. Rule number eleven is the stock priced low, and we look for three things. We look at the PE ratio we want to make sure it's low. We look at the current dividend yield and compare it to the 20-year average yield and then we look at the PB ratio, the price-to-book ratio, as well. If it passes those three conditions, then the company passes rule number eleven and rule number twelve keep your emotions out of investing, and I emphasize that in today's episode. Be patient, be patient with yourself and be patient with your investments. This does take time. When the dividends come in, they're fairly small and they are always small. It takes time, years, to collect those dividends and then reinvest them back into stocks that pay dividends and then reinvest those dividends into stocks that pay dividends, and so it takes time. But then it'll get to a point where there's sufficient dividends coming in 10, 15, $20,000 a year in dividends. When you reinvest those the following year you're going to make even more money in dividends and dividend increases. So the increases are generally fairly small, but over 5, 10, 15 years they're huge increases, like we saw in this example today with JM Smucker, where the dividend I think it was 63 cents is now at $4.24. Huge increase, but it took years to get there. So, for those of you that are interested, I have put together the Simply Investing course. It's an online course, it's self-paced, it's got 10 modules. So we cover the investing basics, cover the 12 rules of Simply Investing, and then I show you how to apply the 12 rules to any stock anywhere in the world, and I provide you with a Google Sheet with step-by-step instructions and a video on how to fill it all out. I'm going to show you how to use the Simply Investing platform and, for beginners, I will show you how to place your first stock order, step-by-step. Then we look at building and tracking your portfolio. Then we also look at when to sell, which is very important, just as important as knowing when to buy. And then, for those of you that have mutual funds, index funds, etfs, we're going to talk about reducing your fees, reducing your risk, even when it comes to dividend stocks. In module number nine, your action plan to get started right away. And in module 10, I answer your frequently asked questions, and I've also spent a little over two and a half three years building the Simply Investing platform. The platform is a web application. It applies these rules to over 6,000 companies in the US and in Canada every single day, so you can log into the platform and find out immediately which companies to consider for investing and which ones to avoid, because we show you which companies fail which of the rules. So the platform is also a great resource to go to. So for those of you that are watching or listening, you may want to write this down. The coupon code SAVE10SAVE10 is going to save you 10% off of our online course and our Simply Investing platform. If you enjoyed today's episode, be sure to hit the subscribe button, hit the like button as well and, for more information, take a look at our website simplyinvestingcom. Thanks for watching.

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