When I researched my holdings and dividends for my quarterly review, I noticed something that required further analysis. I put it aside while completing my taxes, but resolved to readdress it. The issue is portfolio balance – or more specifically – being out of balance. I noticed over the past few months that portions of my portfolio were sliding farther from their assigned allocations. I currently rank my holdings by value (price * # shares). I then weight by category. The companies I’ve identified as Anchor positions would comprise a maximum 18% of the total value. Frankly, none of these positions has yet attained the 6% threshold since I only added this category last year. WEC (5.4%), CLX (4.6%) and KMB (3.8%) hold these slots and I haven’t been adding to them this year outside of dividend reinvestment due to valuation. So my ‘heavy hitters’ aren’t out of balance.
Another area causing some portfolio disruption is the amount of M&A activity. This one of those good/bad things with 16.5% of my holdings merging, being acquired, spinning off divisions, being privatized or are subject to rumors thereof. But in deeper analysis, only two of these – PNY (4.4%) and NSC (2.3%) – have a concentration greater than 1%. So I have to conclude that other than limiting my watch list due to overvaluations, the M&A impact is minimal. Perhaps with CP scrapping their NSC bid this week, the NSC value will begin to normalize.
So I finally concluded that just maybe my emphasis on value within a portfolio – over dollars generated – was ill conceived. I didn’t perceive a significant difference between the two methods and assumed it was more about personal preference. But last January, Dividend House published Our Dividend Growth Investing Portfolio Plan on Seeking Alpha which addressed:
- Should each stock be weighted equally? Many folks espouse equal positions (either based on market price or on dividend income) for all of the positions in their portfolio. Others, like myself, take a tiered approach. We have three tiers in our current DGI portfolio … I weight stocks like Johnson & Johnson, Coke, and Procter & Gamble more heavily than stocks like Kraft or Mattel. In other words, I trust JNJ, KO and PG to pay out increasing dividends consistently every year more than I trust KFC and MAT to do so. As a result, a full position for JNJ is larger than a full position in a Mattel.
- Should I weight by market price or income?We weight our stocks by income. This means we end up purchasing more of our higher quality stocks (which typically have lower dividend yields) to provide as much income as a more speculative stock. If you weight by price, you run the risk of overweighting speculative stocks’ impact on your portfolio from an income perspective.
Which is exactly the situation I find myself. I haven’t added to my Comcast position since November 2002. My last purchase of Home Depot was February 2014. Yet both of these stocks have been increasing in value. Not necessarily a bad thing but it sure distorts the intent of the portfolio – particularly when one is no longer in the pure accumulation phase of investing. Mike Nadel, who authored Weighting Portfolios: Equally, Variably Or By Dividends Generated?, added this comment to her article:
As for your ideas, one of my favorite for a DGI is a weighting system that favors income over dollar values. Let’s say I own JNJ and MAIN (and, indeed, I do). Obviously, JNJ is one of the greatest, most stable companies in the world, a decades-long dividend grower. I think MAIN is the creme de la creme of BDCs, but it still is a speculative company that lends money to businesses that have trouble getting loans from banks. Nevertheless, if I invest $10K in each, I’d be counting upon MAIN to provide 2 1/2 times as much dividend income as JNJ. To me, that makes absolutely no sense for a DGI portfolio.
All of which makes perfect sense. With that being said, today I changed how my portfolio is presented. I no longer show the percentage by value but the percentage by dividend payments. Comcast now accounts for 9% and Home Depot 7% of my dividends – but most important trending down as I increase my holdings. And perhaps one day Comcast will provide the desired 1.5% without selling any shares.