Dividend Growth or Dividend Yield

Should you seek dividend growth or dividend yield in a retirement portfolio? I recommend both. I call the combination a Dividend Blend.

A fast grower almost always starts out at a low initial yield. If the dividend amount grows at 10% per year, which is excellent, it takes just over 7 years to double. That is a long time. If the initial dividend amount were 2.5% with a 10% per year growth rate, you would have to wait 7 years to reach a withdrawal rate of 5% of the original balance (ignoring inflation).

A high yielder often comes with slow growth, sometimes none. You may have to reinvest a portion of the income stream to keep up with inflation.

With a Dividend Blend, you use a portion of the high yielder’s excess to cover the middle years while waiting for the fast grower to take over. You start out with a withdrawal rate of 5% or more (plus inflation).

There are two fine points. The excess from the high yielder can be reinvested in more shares of the high yielder, assuming that the price is right. It does not have to be invested in TIPS or money market funds.

The price of a fast grower is likely to command a premium. This leaves you at the mercy of the marketplace. The size of this premium varies according to public preferences, not simply by corporate performance. This can work in your favor. Often, it does. It can also work against you.

Have fun.

John Walter Russell
March 27, 2008