Bought General Mills, Inc (NYSE: GIS)

Being patient and having some extra cash in my RRSP paid off on Wednesday as I was able to initiate a position in General Mills, Inc. When General Mills missed the consensus Q4 EPS estimate of $0.72, and reported EPS of a mere $0.67, the stock tumbled over 4%, and I was able to initiate a position in this great company that has been on my watch list for over a year. Here are a few reasons why this stock has been on my watch list:

- Dividend yield of 3.2% at purchase, well supported given the payout ratio of 54% (slightly above historical norm of ~50%).

- An impressive history of dividend growth over the last five years (averaging annual growth of 14%) and 24% over the last year.

- Reasonably priced at a P/E of 18X at cost.

- Strong balance sheet reflected in credit ratings of BBB+/Stable and A3/Stable.

- International sales account for about 30% of total sales, which enhances diversification of my portfolio.

My purchase of General Mills also allowed me to reach my forward dividend income goal that I had set for December 2014. With six months still to go, I'll have to re-set this goal, and figure out what it is I'd like to accomplish during the rest of the year.

Bought Pfizer (NYSE: PFE)

Even though I’m finding it difficult to buy US stocks with the S&P 500 reaching all-times daily, and the CAD/USD exchange rate making every company south of the border look even more expensive, I pulled the trigger today and added to my position in Pfizer. Even after Pfizer’s proposed acquisition of AstraZeneca (“AZ”) was rejected by AZ’s board, I still find a lot to like about Pfizer:

-          A dividend yield of 3.55% that is sustainable given their 30% payout ratio.

-          A solid record of dividend growth over the last five years (averaging 13% per year) and in the last year (8.3%).

-          A reasonable valuation with a P/E of 17.9X

-          A strong portfolio of drugs still on patent and a promising pipeline of new drugs

-          Great geographical diversification with only 39% of sales in the US, 22% in emerging markets

-          Strong balance sheet reflected in credit ratings of AA/Stable and A1/Stable

Adding to my position in Pfizer is in-line with my 2014 goals of increasing amounts invested in companies I’m comfortable with and puts me temptingly close to achieving my forward dividend goal for the next twelve months.  Since the forward dividend goal was to be accomplished by the end of the year, I’ll have to revise it if I have it met by next Monday.

(Full disclosure: Long Pfizer)

James Bond-less

I was reading an article in the summer issue of MoneySense magazine about the role of bonds in a portfolio. The author mentioned that during the stock market crash of 2009, bonds helped some investors limit their losses. At that point in the article, about three paragraphs in, I stopped reading since I predicted the author would go on to say that bonds help smooth portfolio returns in difficult times. Although I can't argue that point,  I stopped investing in bonds in late 2007. Despite mountains of "experts" who drone on about the benefits of holding bonds, I don't ever plan on buying a bond, bond etf, or anything of that nature again. 

Over the long-term, which is the period I plan to hold my investments, bonds returns average between 5-6%, while stocks returns average a little less than 10%. Granted stock returns have higher variability, but the rewards (almost double the bond returns) far outweighs the risks for me. Currently, a government of Canada 10-year bond is yielding around 2.3%.  With inflation at 2.3% in May, your government of Canada bond only allows you to conserve purchasing power...and that's if you believe inflation is actually only 2.3%, and assumes it will stay at that rate or lower over the next 10-years. 

Like most investors, before converting to dividend growth investing, I owned bonds. Specificially, I owned province of Ontario bonds, government of Canada bonds, and even a bond ETF from ishares (TSX: XBB). The rates on all these fixed income securities are very low (XBB yields around 3%), and worse yet, the interest income is taxed at the full marginal rate...a nightmare for investors living in Quebec. In comparison, my portfolio yields a little over 4%, and the stocks I invest in have a healthy habit of increasing their yields each year. Plus, the income my dividend growth stocks generate is taxed at a lower rate due to the dividend tax credit. If I ever need to sell my shares, capital gains are taxed at half the marginal tax rate. 

The closest thing I have to bonds in my portfolio are shares in Riocan REIT (yielding 5.2%) and H&R REIT (yielding 5.9%). If interest rates shot up, I expect both of these holdings to decrease in values, and I'm ok with that. In the long-run, I know both REITs are great companies, with portfolios of properties that would be hard, if not impossible, to duplicate. In the event of rising rates, I'd gladly pick up more shares in both entities, as I think their distributions will grow over time, and the value of their well managed properties would follow suit.

Before you add bonds to your portfolio, I think you should ask yourself why you're doing it. If it's for safety, you can always go with a safer investment (CDs/GICs) that wouldn't be impacted by an increase in interest rates. If you're investing in bonds for the income, then why not try a portfolio of dividend growth stocks instead? Not only would such a portfolio give you a higher yield, you could look forward to raises every year in order to bet keep pace with inflation. 

(Full Disclosure: Long REI.UN and HR.UN)

The Power of Patience

After reading Richard Peterson's book "Inside the Investor's Brain", in which he explains some of the common mistakes/biases investors make when trading, I decided to conduct a little experiment. Having read about investors' tendency to overtrade, I decided to avoid looking at my investment account balances for a week.

One of the great things about a dividend growth portfolio is that it is supposed to be low maintenance; good companies keep earning superior returns, increasing their dividends over time, while I sit back and collect an increasing stream of dividends. Although this sounds very reasonable in theory, I found myself reading daily news alerts on my companies, and checking my account balances each night after coming home from work. Checking my investment account balances was a daily habit. After reading that investors who check their account balances are far more likely trade stocks, and knowing that trading decreases returns due to transaction costs, I decided to break this potentially wealth-destroying habit.

This Friday I can once again check my investment account balance, and get a gauge of how things went over the week. Not knowing exactly how every stock is moving each day is very liberating. I realize that I have faith in my investment process (on both the buy/sell sides), and checking in daily is simply not necessary.

Three US Stocks on my Watch List

About half the money in my self-directed RRSP is invested in US equities. Generally, I use US equities in order to get exposure to the international market, without having to worry about different accounting standards and dividend with-holding rules. For this reason, I gravitate to US based multi-nationals like Coca-Cola, Microsoft, and McDonald's.

With my annual RRSP contribution deposited in my account in the last month, and a nice collection of dividend payments made in the first half of 2014, I'm sitting on an unusually high amount of cash in my RRSP. One of the reasons for my inaction is the outrageous 1.11 USD/CAD exchange rate my broker wants to charge me on any US stock I buy. This compares to the actual 1.09 USD/CAD rate at market close today. There are very few US companies I'd consider paying an 11% premium on, but cash sitting in my account earns me negligible interest. I thought I'd share some of my US watch list companies with you, and why I'd consider paying an 11% premium to buy into them.

Microsoft - I initiated my position in Microsoft around this time last year, and saw it sore from $26.50 a share to its current level around $41.00. The company raised it's dividend by 22% in that period, and with a payout ratio around 38%, there's plenty of room for another big bump this year. My issues with adding to this position are that I'd be buying near the company's 52-week high ($41.66) and at a dividend yield of 2.7%. That said, very few companies have the revenue/EPS growth record that Microsoft boasts, and I feel it is well-managed company. 

Procter & Gamble - Another well-run, global company, trading at what I consider to be a very fair price. Other pluses are PG's 3.2% dividend yield, recent 7% dividend raise earlier this year, and payout ratio of 62%. That said, that company has not been able to grow revenue and EPS at the same pace Microsoft has over the last few years, and there's no 'must-have' product in the pipe line that would drive that type of growth in the future. My main hold-back on this is thinking that I'll end up paying about $89 per share, which would drive my actual dividend yield down to 2.9%. 

Kinder Morgan - I've done very well investing in Canadian pipelines, and have been looking at opportunities to invest in that sector in the US. Granted, this is no where near as multi-national as the typical US companies I usually consider. However, the 5% dividend yield is enticing, as is the record of dividend growth (over 5% per year). The fact the company has almost doubled revenues over the last 5-years, and increased EPS by about 50% in that period, also helps offset the lack of international exposure. As is usually the case, as soon as I start to even consider adding a new position, the stock tends to take off before I can make up my mind.

In addition to the above three securities, Chevron has also caught my attention as a potential new position. It's another case where the 3.5% dividend yield (7% dividend growth yoy) looks great, until I factor in the 11% premium I'd pay on the shares. Here's hoping the Canadian dollar gains some ground on its US counterpart, to make adding US shares in my RRSP cheaper.

Full disclosure: Long MSFT, KO, and MCD