Tuesday, May 20, 2008

* The Power of 5/15 in Dividend Investing

As a kid I loved math. Unlike classic literature where I had to correctly interpret symbolism that I rarely ever noticed, math was one of the few subjects that had a definitive answer - it was either right or wrong. I took great comfort in that. Dividend investing takes advantage of certain undeniable math principles.


If you have examined one of my stock analyses, you may have noticed the metric "Rolling 4-yr Div. > 15%". This calculation determines if a company's dividends grew on average in excess of 15% for each consecutive 4-year period, within the last 10 years of history. For example, if on average dividends grew 15% or more for the periods 2005-2008 and 2004-2007 and 2003-2006 and so on to 1997-2000, then this test is true. The reason I like this metric is it identifies companies that consistently increase dividends. Another way of stating this is that if you held this company for any 4-year period over the last 10 years, you would have averaged a 15% dividend growth rate during the time you held the stock.

Contrast the above example with a company that grew its dividends at 1% per year for nine years, then sold some land in year 10 and paid a special dividend that resulted in a 140% year-over-year dividend increase. This company's average 10-year dividend growth rate is 15% [(140 + 9)/10]. Both companies would have a 15% 10-year average dividend growth rate. However, based on history the first company is more likely to raise its dividend by 15% in the future.

Ok, so why is 15% relevant? The power of 5/15, of coarse! Dividends will double every 5 years if they grow by 15% per year. Taking this undeniable math principle into consideration, it often makes sense to purchase a stock with a lower yield but with a higher growth rate. Here are few companies that I own that have the power of 5/15 working for them: Royal Bank of Canada (RY), Paychex Inc (PAYX), McDonald's (MCD), Sysco Corp (SYY) and AFLAC Inc (AFL).

Do you have the power of 5/15 working for you?
At the time of this writing I owned shares in RY, PAYX, MCD, SYY and AFL.

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