Maximize your gains: Discover the power of growing dividends to outperform the market (1/3)

Today, we begin a three-part series on the characteristics of dividend-paying growth stocks. We'll start by discussing the market, psychology, speculation and investing in value stocks. We'll then look at the particularities of dividends and, in particular, increasing dividends. Finally, we'll conclude this series with some useful lessons for any income- and value-oriented investor.

The Net is full of pay sites that offer you beat the market. There are a number of more or less complicated systems for achieving excess returns, including short selling, speculative stocks, bankrupt companies and small caps. While some of these methods are successful in the short and medium term, they do so at the cost of a and high management fees. For the most part, they are based on temporary market anomalies that tend to correct themselves over the long term.

As soon as a stock market martingale becomes known, Mr. Market renders it obsolete, while new buyers (or sellers) appear. In the best-case scenario, they destroy the advantage of investing in a niche, a sector or an undervalued stock. This phenomenon also occurs when a small investment fund becomes popular following a succession of good results. The more clients it has, the more securities it has to buy, and the more its returns will be in line with the market. But in the worst case, the success of one type of investment can create a speculative bubble.

We've even seen Ponzi schemes repeated many times throughout history, as if man didn't have the ability to remember his mistakes and prevent them from happening again. Ponzi schemes and speculative bubbles aren't so far apart when you think about it, both being based on the limitless greed of a seller who wants to make a profit, and an even crazier buyer who hopes to do just as well, all without any real economic foundation..

It is this difference between the real economy and human psychology that distinguishes value-based investing from speculation. Speculation feeds on the greed and fear of Men. It also takes time for speculative bubbles to emerge, blossom and die. Time also allows them to be forgotten by man, only to re-emerge later, which is why they will always be an integral part of the market.

By focusing not on stock market trends and fashions, but on the value of an asset at a given moment, a handful of investors have managed to beat the market over the long term. The best-known are, of course Warren Buffett and Benjamin Graham. Their principles are ultimately simple, but they require cool-headedness and total detachment from the majority of other investors and speculators. In the end, value investing is simply about know what you pay for what you get.

We can be interested in assets, profits, dividends... all tangible and very real, the whole point being to pay as little as possible for them. André Gosselin sums up the multiple qualities of dividends perfectly in the text below, and in particular their ability to detach themselves from investor perception, to focus on the real growth of companies:

According to Chicago-based research firm Ibbotson Associates, dividends accounted for 43 % of the total return offered by S&P 500 companies between 1926 and 2004. Investors who neglect dividend-paying stocks therefore run the risk of leaving a huge share of the total return offered by the equity market on the table. We also know that companies that pay a dividend, at least in the United States, experience higher earnings growth than those that don't. This is a discovery that shakes our certainty about the future. A discovery that shakes up our certainties, since it has long been thought, wrongly, that companies that reinvest all their profits (rather than giving a portion of them to their shareholders) enjoy better revenue and earnings growth. In other words, companies that reinvest all their profits do not always do so wisely. It would often be wiser to return profits to shareholders rather than waste them on botched projects or dubious acquisitions (...). Dividend-paying stocks are also 10 % less volatile than non-dividend-paying stocks, and dividend payouts fluctuated on average (up or down) by 1.6 % between 1926 and 2003, while share prices fluctuated by 19.6 %. To sum up, dividends fluctuate not according to investors' perceptions of the economy and the stock market's potential, but according to the actual growth in corporate profits.

Dividends therefore have the quality of enhancing corporate governance and increasing profits, while reducing stock volatility! The retirement of baby-boomers is also creating a serious craze for these safe, lucrative securities, as André Gosselin confirms below:

At the end of the 1990s, 220 S&P 500 companies (or 44 %) were issuing dividends to their shareholders. Last year, this figure climbed to 387 (or 77 %). How can we explain such an increase? For some, companies are telling their shareholders that they've run out of ideas or good investment opportunities, and that it's better, in such a context, to return a share of profits to shareholders. For others, it's the demand from aging baby boomers that's prompting companies to fill some of their revenue needs. According to financial research firm DSG-Network, 98 % of US financial planners recommend dividend stocks to their clients for their retirement plans, and 70 % will rank these stocks in their top two recommendations. U.S. companies seem to have got the message, as the percentage of S&P 500 members increasing their dividends rose from 33 % in 2003, to 40 % in 2003 and 54 % in 2004. Whether for demographic reasons or better governance considerations, more and more American and Canadian companies are choosing to distribute their profits to shareholders (in the form of dividends, share buybacks or income trusts).

Of course, this craze can itself be the source of a new speculative movement, which is why it's always a good idea to keep a close eye on the market. question whether what you get (e.g. dividends) can be bought at the right price. Le performance can be an indicator in this sense, but it is not sufficient. In our next article of this series and talk about the inherent qualities of growing dividends.