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Book Review: The Dividend Toolkit

August 28th, 2012 Leave a comment Go to comments

The Dividend Toolkit is a new investment book offered by Dividend Monk (DM). I rely on Dividend Monk as a quality source of evaluating dividend stocks and was very interested in reading his new book. This book consolidates his investing analysis and tools into one place. The new book was provided to this author for evaluation.

Book  Summary

The Dividend Toolkit is a guide on dividend investing. The book makes is easy for you to understand and approach dividend investing. It is setup in chapters that are readable on their own just in case you want to skip around.

The book itself has two sections and a supplemental spreadsheet that puts a discount valuation model into practice. The spreadsheet can be used to value stocks in a couple of different ways using stock financials plus your own inputs.

The first section covers topics that are important for anyone looking to build wealth, regardless of how you choose to do it.  It continues with more basic details about companies, stocks/bonds/commodities, stock valuation and ends with a detailed introduction to dividend investing.

Section 1:

Section 2 covers topics that are more advanced

Building An Investment Portfolio

DM spends all of chapter 6 talking about how to build a portfolio and chapter C in Section 2 talking about how to pick individual stocks. These sections are the meatiest part of the book since they cover how to integrate an individual stock portfolio with a portfolio of index funds and as well as how to pick individual stocks that you will want to invest. This strategy of combining an index portfolio with individual stocks makes a lot of sense because most people inevitably will be stuck with investing in funds because of retirement plans that they have at work.

In my case I have all of these different types of accounts:

  • (2) Cash Balance retirement accounts.
  • (1) active 401(k) account.
  • (1) 401(k) account from a previous employer.
  • (1) Rollover IRA.
  • Multiple taxable accounts.

So even if I wanted to be a 100% individual stock picker, investing at work would preclude it.

Within an individual stock portfolio, you necessarily need to chose how many investments you want to have. DM talks about different scenarios based upon how much time to want to spend on maintaining the portfolio as well as the tradeoffs of too few or too many individual stocks.

Stock Analysis And Valuation

The chapter on stock analysis takes its cue from the so-called Pareto principle, which means that in your analysis you should consider a list of key metrics, then go no further due to diminishing returns. This discussion goes to considerable length talking about discreet financial attributes as well as other softer criteria about a potential investment.

There’s a lot of detail here, too much to talk about here. One key takeaway that I got from this section is that it is far more important to evaluate a company on its ability and willingness to increase shareholder value. This is a more advanced view of stock analysis since one typically looks for growing revenue and earnings to power returns. You don’t need to find sexy, fast growing companies to make money investing, in fact you can make money with stocks that have no top line growth at all!

To demonstrate this point, the book discusses a case of a company, Chubb (CB),with no top line growth that has provided returns of 10% per year. How did they do it? By paying dividends to the shareholder as well as buying back stock with other earnings. It also didn’t hurt that the low valuation of the company on an earnings basis made the stock buybacks all the more significant.

Section 2: Taking On Sacred Cows

The highlight of the second section of the book are those discussions that talk about investing dogma with an eye of skepticism. If you become more involved in investing, you will probably question standard investing advice. This standard advice may not a bad idea for unsophisticated or uninvolved investors (like anything else, there are never clear rights and wrongs here) . The more I learn about and research investing, the more I’ve come to question the dogma of mass market investing.

What I mean about investing dogma is things like:

  • Diversification lowers risk.
  • Asset Allocation leads to higher long term returns.
  • Index: don’t try to beat the market.
  • Individual stock pickers will inevitably get market returns.

DM takes on a few of these topics:

  • Asset Allocation: DM takes on asset allocation by calculating the performance of various stock/bond portfolio allocations. The performance is calculated using decades of historical data. With this empirical data, he comes to a conclusion that might surprise you about how you should allocate your investments.
  • P/E: The price to earnings ratio has been around probably as long as the stock market. DM talks about the P/E and its shortcomings, but recommends that you use another metric in its place.
  • Index Investing: The book supports index investing by demonstrating how to add them to your portfolio (as discussed in chapter 6) but nevertheless talks about a few downsides to it.

Supplement: Streamlined Stock Valuation Spreadsheet

The book includes a companion spreadsheet that includes two methods of calculating stock valuation. These methods are more rigorous than the simplified calculation that is often used. The book talks about this simplified valuation approach as well. I’ve used on this simplified valuation technique on my site and in my own investing:

Approximate Annualized Return Potential = Dividend Yield + EPS Growth

This simple valuation equation is OK as a starting point because it can give you a first impression about the valuation of a stock. It has its limitations particularly when the yield or growth rates stray from typical ranges.

The two methods in the spreadsheet include (4) calculations (each method has 2 versions):

  1. Dividend Discount Model – 9 cell
  2. Dividend Discount Model – 15 cell
  3. Discounted Cash Flow Model – 9 cell
  4. Discounted Cash Flow Model – 15 cell

The difference between the basic (9 cell) and advanced (15 cell)  is that the basic assumes a consistent rate of EPS growth forever. Real life isn’t like that, so the advanced models add in a secondary calculation that assumes a lower, terminal EPS growth rate that might occur with a company as it matures. The advanced model as you might guess gives a more conservative valuation estimate.

Summary

I’ve enjoyed reading the Dividend Toolkit even though it will take perhaps a few more reads to fully understand all of the information provided. Whatever investing level you are at you will likely learn something new after reading this book.

DISCLAIMER: This site will not receive compensation for this review nor for any sales of the book.

 

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