Latest / Dividend Investing with Fexingo: Income Stocks, Yield, and Long-Term Cash Flow Portfolios / How the Dividend Growth Rate Matters More Than Yield
Transcript
- Lucas: So we've spent a lot of episodes talking about yield — what it is, how to find it, when it's safe. But I want to flip the lens today and talk about something that actually matters more over time: the dividend growth rate. Luna: You mean the rate at which the company increases its payout each year, not just how big the check is today. Lucas: Exactly. And the reason it's so crucial is that a stock's price can swing wildly, but its dividend growth compounds. Let me give you a concrete example from this week. Procter and Gamble is up 4.5 percent over the past five days. Johnson and Johnson up 4.1 percent. Luna: Both of those are classic dividend growers — P and G has raised its dividend for over 60 years. Lucas: Right. Neither has a huge current yield — P and G is around 2.5 percent, J and J around 3 percent. But here's what matters: if a company grows its dividend at six percent a year, which is roughly the long-term average for a good dividend grower, then in ten years your yield on cost is over five and a half percent. Luna: And that's assuming you never reinvested a dime. If you DRIP, the compounding gets even more powerful. Lucas: Exactly. Meanwhile, look at Verizon. Down nearly five percent in the same five-day window. Its dividend yield is high — over six percent — but the market is pricing in risk. The dividend growth rate has been flat for years, and the payout ratio is over 60 percent. That's a classic yield trap. Luna: So the market is basically saying, 'We don't trust that dividend to grow, and we're not sure it's even sustainable.' Lucas: Precisely. When a stock's price drops that much in a week, the yield goes up mechanically — but the risk goes up too. The total return picture is ugly. Meanwhile, J and J and P and G are actually appreciating in price this week, even as the broader market is down. The S and P 500 fell 2.8 percent over the same period. Luna: Which is the whole point of dividend growth investing — you get both income and price stability. Lucas: So when I look at a stock, I don't just ask 'what's the yield?' I ask 'what's the five-year compound annual growth rate of the dividend?' And I want to see that number at least in the mid-single digits. Preferably higher. Luna: And where do you find that data? Most screener tools show yield prominently, but growth rate is buried. Lucas: It's true. On a platform like Morningstar or simplysafedividends.com, you can pull the five-year dividend CAGR. For P and G, it's about six percent. For J and J, about 5.5 percent. For a real high-growth name like Microsoft, it's over ten percent — though the yield is only around one percent. Luna: So you're trading current income for future income. That's a trade-off a lot of retirees are uncomfortable with. Lucas: Absolutely. And that's why you need both. A retiree might allocate part of their portfolio to steady growers like J and J for the compounding, and part to higher-yielding but still growing names like Coca-Cola — which is up 1.1 percent this week and has a 3.2 percent yield with 60-plus years of increases. Coke's growth rate is only about four percent, but the starting yield is higher. Luna: So the formula is: yield plus growth rate equals total income return. A stock yielding 2.5 percent growing at six percent gives you an 8.5 percent total income return on cost over time. Lucas: That's exactly the way to think about it. And if you can find a stock with a three percent yield and eight percent growth? That's an 11 percent total return just from dividends. You don't need the stock price to do anything. Luna: And by that logic, the worst thing you can do is chase a high yield with zero growth. Because inflation eats away at that fixed income every year. Lucas: Right. A stock yielding seven percent with no growth — after ten years of two percent inflation, your real yield is under five percent. Meanwhile, that 2.5 percent grower has doubled its payout. Luna: It's funny — we talk so much about the magic of compounding in retirement accounts, but we often forget to apply it to dividends. Lucas: That's actually a really good link to something I want to mention. If you find these conversations helpful — if thinking about yield on cost has changed how you look at a stock — you might also appreciate that this show is completely listener-supported. No ads, no sponsors pushing products. It's just us, talking through the math. Luna: Yeah, and it's a small gesture that keeps it going. If you've ever gotten value from an episode, consider supporting the show at buy me a coffee dot com slash fexingo. Lucas: Seriously, even a one-time contribution helps us keep the lights on and the research time flowing. And speaking of research — let's get back to those growth rates. I want to talk about how you actually screen for these stocks. Luna: Okay, so walk me through your process. What's the first filter? Lucas: First, I filter for companies that have raised their dividend for at least ten consecutive years. That's a minimum. Then I look at the five-year dividend CAGR. I want it above five percent. Then I check the payout ratio — ideally under 60 percent for most sectors, though utilities and REITs can be higher. Luna: And then you look at total return? Or do you buy on dips? Lucas: I try to buy when the yield is above its own five-year average. That way I'm not overpaying. For example, with the S and P 500 down 2.8 percent this week, a lot of quality dividend growers are on sale. But you have to be selective — not everything that's down is a bargain. Luna: Right — look at Verizon again. Down 4.9 percent, but the payout ratio is 65 percent and debt is high. That's a value trap, not a dividend growth opportunity. Lucas: Bingo. So the key takeaway: don't let a high yield seduce you. Ask yourself, 'Can this company keep growing the dividend at a rate that beats inflation?' If the answer is no, it's probably not a long-term hold. Luna: And if the answer is yes, you've got a compounding machine that will build your income stream year after year, regardless of what the market does. Lucas: Exactly. That's the power of dividend growth investing. Thanks for listening, and we'll be back with more next week.