Should You Be Chasing Dividends?

Dividend investing is all the rage. See my response to a client’s question on whether to consider switching to a dividend income philosophy below.

Hi Rich – I have been listening to the talking heads on CNBC the last few weeks during the market volatility and most seem to think that the smart move is to buy stocks that have a history of paying good dividends….. The ETF SPDR S&P Dividend, (SPY) seems like a good move…. I would like to hear your opinion on this and any other moves we might consider taking…..the current yield on this ETF is 3.2%. I look forward to hearing your thoughts…

You’ve touched on the great debate of investing for Total Return or Dividend/Income.

Total return investing is investing for maximum return with income coming from the sale of fund shares. This results in minimal dividend tax and more capital gain tax on taxable accounts. Any income from IRA accounts is of course income tax, not including Roth withdrawals.

Dividend or Income investing is buying dividend paying stocks or funds that invest in dividend paying stocks. Income comes from dividends, and little or no shares are needed to sell for income. Dividend income is taxed at a more favorable rate if it is qualified. There is a holding period to qualify dividends.

Over the last 3 years, dividend investing has been favorable. Over the the last 5 years they’ve been almost even, with slight edge going to Total Return investing. (See 3 and 5 year Total Return figures of Vanguard Total Stock Market Fund, ticker VTI and SPDR S&P Dividend fund, ticker SDYon Morningstar by clicking on the links.) My philosophy has always leaned towards Total Return, but I have a client that prefers dividend investing. We’ve compromised and put a portion in a total return fund, VTI,  and a portion in a dividend oriented fund, VIG, which is Vanguard Dividend ETF. VIG is a blend between VTI and SDY. It doesn’t pay as much as the S&P Dividend Fund (SDY), but pays more than the Vanguard Total Stock Market fund (VTI). The strategy has worked out well, but has resulted in a lot of extra income on his tax return each year.

Morningstar’s Christine Benz just wrote an article on this topic recently because it seems to be the hot topic as of late. Income vs. Total Return. Her conclusion was to use a combination of both.

Why I lean towards Total Return - My preference has always been towards total return for tax reasons. By sheltering the bonds in your 401k and IRAs, and investing in indexes in your taxable accounts, you minimize taxes. If you’ve captured tax losses in your taxable account, which has been easy to do lately, you can further reduce your taxes, should you need to sell for income in the taxable account.

 Why some lean towards Dividend Investing - There are some of the opinion that companies that pay a dividend are a little more careful with the way they run their company. As a small business owner, I can understand the rationale. If I have to pay a dividend every year at a set rate, I better have the money to do so. Therefore a dividend paying company may be a little more cautious.

My Compromise – As one begins to take income, I am open to the idea of shifting a portion of large cap allocations to dividend paying funds. Just as Ms. Benz mentions, a little of both Total Return and Income investing is probably key. I’ve always been a big believer in moderation. However; if qualified dividend rates are taken away in 2013, dividend investing may lose its moxy.

Disclaimer: I am not recommending readers invest in the funds mentioned in this article. They are used as an example of funds used in the two different investing philosophies. Any use of these, or any funds, should be a part of a well designed investment plan. It is the author’s opinion that asset allocations and investing philosophies should be designed as a compliment to a financial plan. What you are trying to achieve in life should dictate how you invest. Go to http://findanadvisor.napfa.org to find a fee-only financial advisor.

About the author

Richard T. Feight, CFP®
Richard T. Feight, CFP®

Among independent financial advisors, Mr. Feight is one of the most well known and highly respected “Fee-Only” financial planners. Since 1997, Rich has dedicated his career to offering low cost “Fee-Only” comprehensive financial planning and investment advice. Rich assists his clients in organizing their finances so that they can retire on time.Rich is a graduate of Michigan State University where he received his degree in Finance. Rich has earned the Certificate of Financial Planning from The College for Financial Planning in Denver , Colorado that was comprised of intense graduate level classes grounding him in the various foundations of financial planning. He is a CFP® (Certified Financial Planner®) since 2001, meeting the experience, education requirements and passing the two-day, 10 hour exam, making him one of the few in the country who hold the designation. Since 2003, Rich has subscribed to the stringent and mandatory annual educational hours, experience, and code of ethics to meet the requirements to be a NAPFA Registered Financial Advisor. Out of the 800,000 individuals in the country who claim they are financial advisors/planners, fewer than 1,300 in the country qualify for the membership; Rich is one of them.

Rich is the President of the Financial Planning Association (FPA) of Michigan . The FPA of Michigan is one of largest and influential chapter in the country. Rich was recently named President for Transportation Toastmasters Club 4776 downtown Lansing . He has been quoted in both local and national media from Noise Magazine to CNBC, and Bloomberg, and industry news publications such as Investment News and Financial Advisor Magazine. Rich enjoys public speaking and has spoke at industry educational meeting, high schools, and executive investment clubs, AARP conferences, and business educational seminars for companies looking to educate their employees. Rich views his role as a Fiduciary for his clients as the single biggest key to any planning relationship and strives to provide the most competent, unbiased and objective advice in the financial planning profession today.

Leave a Reply

Your email address will not be published.

You may use these HTML tags and attributes: <a href="" title=""> <abbr title=""> <acronym title=""> <b> <blockquote cite=""> <cite> <code> <del datetime=""> <em> <i> <q cite=""> <s> <strike> <strong>

Copyright 2014 FiGuide.com   About Us   Contact Us   Our Advisors       Login