July 31

The Best Dividend Portfolio for Building Wealth

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I often get asked (by 20 and 30-something old’s) what the optimal dividend portfolio looks like for acquiring wealth.

While this is a matter of personal opinion, this seems like the wrong question to be asking. The reason being is that using a dividend strategy will likely cripple your path to wealth, if anything.

I wrote some other article here on the topic of why dividend stocks can be good or bad.

My Opinion

My answer to those asking me the question above is, none. There is no optimal dividend portfolio I would advocate for if building wealth is the goal. Dividends are taxable events, and by explicitly employing them in your portfolio, you are forcing a taxable event.

By forcing a taxable event, you’re foregoing extra capital you could have used to further propel or compound your returns (in the form of growth stocks, for example). Investing in an Index fund such as the S&P500, for example, will return insignificant dividends but moderate returns in the form of growth (about 7-8%) that will compound. In contrast, by opting for dividend stocks, you lessen the compounding effect since you pay taxes on each year’s dividend returns, and as a result have less capital to invest the following year compared to having invested in the index fund in the first place.

To reiterate, for the “building wealth” stage of your career, employing a dividend portfolio strategy is not recommended as it is not as effective as simply going the growth portfolio route.

However, if you are adamant on using a dividend-only portfolio, I would highly recommend picking only value-based stocks from a diverse variety of industries that have yields, in aggregate, that average out to something close to your Safe Withdrawal Rate (SWR) (probably around 4-5%). To get the most bang for your buck, you’ll likely find your best opportunities when the stock value undergoes temporary market corrections/dips, making it a cheap acquisition with a moderate dividend yield.

This way, you have less to lose and more to gain.

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June 30

The Hidden Dangers of a 9-5 Job

Having a 9-5 job is the millennial standard source of income. It is often seen as the steadiest way to get rich slowly. This is absolutely true, to an extent. Having a job is more stable than starting a business for example, but a job may be at a disadvantage in some aspects:

Risk

Again, a 9-5 job is a great way to build and grow your career in an organized fashion. Unlike a business, there is generally less personal risk involved (from what we’re told). Unless, of course, you consider the possibility of the company going bankrupt, or your position at the company being terminated. Especially if you were the breadwinner of the household or the sole provider and this had happened, it would be extremely devastating. The fate of your financial future and family wellbeing may be strictly at the mercy of your company or team leader. Talk about risk, huh?

Costs

Historically, it has been advised that starting a business is more expensive than just joining the work-force. Though, the tables have turned. A full-time corporate job has higher start-up costs than a business in our modern society. Don’t believe me? How much did that bachelor’s degree qualification cost you again? $60,000 you say? Oh, and it took 4 years to complete? What if you started an e-commerce business? A webhosting service can cost lower than $5 per month to set up. A full-service e-commerce platform with all the bells and whistles can cost $30 per month, and this can be instantly up and running within hours, not years. While you won’t be netting the average $56,000 annual income U.S. from your business as of Day 1, the return on investment and growth prospects can be more rewarding long term.

Impact

Bluntly put, A 9-5 job alone isn’t enough to build wealth optimally. You will likely spend a great portion of your income on living expenses, and those expenses will increase at a faster rate than your income unless you really know how to navigate and climb the income ladder to create a bigger saving surplus. Remember, even then, money is not an asset. You can save all the money you want, but 10 years later you will note that the buying power of the monies has diminished due to inflation. The point to grasp here is that while a 9-5 job certainly serves as a strong foundation to wealth upon, it really should be supplemented by other avenues such as additional income streams (such as a side-gig or business or rental income), or through acquiring appreciating assets such as stocks and real-estate. While your savings or cash do store value, additional income and assets are what will propel you faster through the journey.

Income Ceiling

Not to mention, your annual income from a day job will eventually reach a ceiling. There may be some exceptions such as some positions in tech, or a high-end sales role. In contrast, investment returns are generally calculated and sought as a percentage of the asset value. This causes a snowball effect and actually compounds your income higher rather than constraining you to a ceiling. For example, owning the VOO (Vanguard 500 Index Fund ETF) can yield 7-10% growth, on average, each year. When the stock is worth $300, expect $21 growth. When it’s worth $400, expect $28 growth. Your net worth grows faster over time as a result.

The benefits of a 9-5 job are endless. However, in this day in age, it cannot optimally grow your wealth unless you have a supplementary source or plan of action.

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May 31

Tax Deferral – Order of Operations

Have you ever wondered if you’re doing everything possible to maximize your long term financial outlook by taking advantage of tax deferred programs? There are many to choose from, and some are provided by the fed, whereas others are provided by the state and even your employer!

Tax planning and optimization is a huge component to building wealth long term by reducing your current tax liability. Below are several of the most popular such programs that the majority of the working mass-population can employ, and the sequence in which I recommend using them, with corresponding reasoning. I strongly suggest you first read about how each program works through my write-ups and also research on your own which programs work best for your scenario and limitations.

Order of operations:

401k – up to company match only. The company is giving you free money, sometimes dollar for dollar up to a certain percentage. For example, if your company matches 3%, you should certainly elect to at least contribute 3% of your income to the 401k, as, with the company match, your 3% automatically becomes 6% when vested. This is a 100% return on your investment! You can use this account to elect which investment opportunities are best for your goals further grow your contributions. This ranks 1st due to the nature of the 100% return on investment instantaneously.

HSA/FSA – up to annual maximum. I would recommend maximizing this account as a second priority if it is an HSA account, as it is exempt from income taxation. You can make purchases using pre-tax dollars! FSA accounts are a little different since that money may evaporate if you don’t use it In the same year, so I wouldn’t consider maxing out to the annual limit unless you anticipate using it all. You can use this account to elect which investment opportunities are best for your goals to further grow your contributions. This ranks 2nd due to the valuable nature of it being completely tax-free.

401k – up to annual maximum. If you don’t need the extra money right away, consider stashing as much as possible as a 3rd priority, up to the annual maximum, into your 401k. This is especially useful if you are a high income earner and want to reduce your current tax liability while having the belief that your tax liability will be lower when you’re ready to retire and take distributions. You can use this account to elect which investment opportunities are best for your goals to further grow your contributions. This ranks 3rd due to the nature of having the greatest ability to exponentially grow your contributions over time, utilizing the power of compounding with pre-tax dollars ($100 Pre-tax can grow faster than $100-tax post-tax dollars).

529 Plans – up to the annual maximum. Consider this as a 4th priority if your state allows you to. By funding it with after-tax dollars, you can then use this as a brokerage account to grow your contributions. You can then use these funds for educational purposes for yourself or assigned beneficiaries. The returns from the investments are tax-free and penalty-free as long as they are used for approved, educational purposes. This ranks 4th, preceding the Roth IRA as you can use the funds without any age restrictions.

Roth IRA – up to the annual maximum. This should be your 5th priority as it is a powerful way to use your post-tax dollars to invest into stocks or other instruments with tax-free growth. This means regardless of how much money you put in and how much it grows, you will never have to pay any taxes withdrawing the contributions or returns of this account, ever! This ranks 5th because you do need to meet the age criteria to be able to withdraw the “earnings” or profits without a penalty, as it is meant to be a retirement account.

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April 30

Why Realized Income is Bad for Building Wealth

Money, Finance, Mortgage, Loan, Real-Estate, Business

Do you like having income?

Let’s face it – we all like income, and more of it is always better.

After all, income is what helps us grow our wealth overtime. This is why we’re often fixated on growing our income. Right…?

Nope

On the contrary, higher income results in diminishing marginal benefit. The sole reason for this is the associated tax liability. The more you earn or realize in income, the more you pay in taxes not just in terms of dollars but in terms of the percentage of that income subject to taxes. In certain states in the United States, an income of $1,000,000 may be subject to over $500,000 (or 50%) in taxes. This is bad for wealth building.

Optimizing wealth building requires that you treat every dollar as an employee, and fully deploy that “workforce” to work for you. The problem with realized income is that in contrast to unrealized income, it is subject to taxes and thus it reduces your net proceeds (take-home pay) and as a result, you now have less available dollars to work for you. This is one of the reasons why the wealthiest folks tend to find ways to reduce tax liability – they grow their unrealized income (such as holding onto invested stocks or real estate that have gained value instead of selling them) and minimize their realized income (which would otherwise be subject to taxes).

What Can I Do?

Much like the wealthy, what are some things you can do to reduce your realized income while maximizing your unrealized income/net worth? Here are just a few ideas, especially if you are employed.

  1. Take advantage of a 401K or equivalent plan if your employer offers it. This will set aside funds in a tax-deferred account for you, so you don’t pay taxes on them now and can let them compound until you are ready to withdraw them.
  2. Take advantage of an HSA (Health Savings Account) or equivalent plan if your employer offers it. This will set aside funds for health related expenses based on your election, and those funds will be contributed to with pre-tax dollars, and still not be subject to taxes while expended.
  3. Hold your investments for the long-haul. Do not sell stocks or real estate investments that have substantial capital gains from growing in value – especially not short term gains which are subject to higher taxation rates.
  4. Minimize Dividend Income. If you hold stocks that pay out dividends, they are usually subject to income taxes even though you still hold the stock itself, and even if you opt to reinvest the dividends. This is because you are being paid distributions. It may be more favorable to hold stocks that grow in value but pay little to no dividends instead.

All of these are some powerful strategies even the average American can utilize to reduce realized income. You may be reducing your take-home checks by doing so, but in the grand scheme of things your net worth is poised to grow much faster as a result.

Remember, this is something most wealthy people do. It is not tax evasion, it is tax planning.

Have you realized all the disadvantages of realized income now?

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February 28

What is Fear of Missing Out (FOMO)?

Fear of Missing Out (FOMO) is a term that was coined to represent the psychology a potential investor may go through for not executing early enough on the investment. In a nutshell, it is anticipation that an investment pay prove profitable and by not investing in it now, we may miss out on significant gains.

As an example, let’s look at bitcoin. Bitcoin has taken the last 12 months by storm. It was under $6,000 at one point last year and peaked well above $50,000 this month. Some of us may think a huge correction (or a reduction/adjustment in price to justify a more disciplined growth) is on its way. Others may feel that based on its current rate of growth, it may grow to as much as $100,000 later this year. The latter group of individuals may be more inclined to invest into bitcoin at the current price-point, due to pressure of FOMO. That is, because they don’t want to miss out on the potential $50,000 upside, they are motivated to purchase now, regardless of the current price and risks that it poses – simply due to the weight they put on its potential.

FOMO Sucks

Let’s be real, losing money is bad. But do you know what’s worse? FOMO. For me personally, it hurts more when I don’t purchase an asset I believe in and it proves to be a worthy investment. It doesn’t hurt as much if I purchase an investment I believe in and it fails. At least I tried – I put in my best faith, and I put my money where my mouth is. Psychologically, we usually don’t regret what we’ve done, but rather we regret what we didn’t do. And this is why FOMO is a thing.

The Solution to FOMO

So we’ve established what FOMO is, and we’ve also highlighted that FOMO is bad. FOMO is something we should address, not suppress. Speaking from my personal experience, the solution to this is Dollar-Cost-Averaging (DCA). I wrote a post on this earlier, and I highly recommend that you read it. By employing DCA, we can mitigate FOMO. Regardless of whether you’re projecting an asset such as a stock to go up or down in the future, if you buy into it gradually over time, you will vest into your conviction gradually. A personal example of this is my strategy with bitcoin. As bitcoin was appreciating in value in recent months, I really wanted to jump on the hype train. However, as most investors warn, never invest into something you don’t understand. And bitcoin is something I didn’t yet fully understand. So I was in a conflicting situation where the wisdom is to not invest in bitcoin, but I was going through FOMO. So what did I do? I bought a little bit of bitcoin, so that I can at least get my foot in the door, and then do more research to formulate my thesis on the longevity of this investment. Ever since then, I have been gradually buying bitcoin via the DCA strategy that I use with stocks.

Conclusion

Losing money is bad, but leaving money on the table can be worse. Don’t let FOMO get the best of you. Dollar-Cost-Average into it, and you will find the right balance between buying too much versus not buying at all.

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November 30

3 Reasons why Limit Orders can be your Best Friend

What are limit orders?

To give you some background, in the stock trading world, a limit order is an order you can place in advance to sell a security at a certain – or better – price. For example, if you own a stock and you set a limit-sell order at a particular price, the order will execute as soon as the stock price is equal to or greater than the particular price. Conversely, if there is a stock you’d like to purchase at a certain entry point, you can place a limit-buy order at a particular price, which will execute that order if and when the stock price is equal to or less than the particular price. Example: TSLA stock is currently $567 and you want to buy it only if it can be had for $500 or less. You should set a limit buy order for TSLA at $500. If and when TSLA drops from $567 to $500 or less, your order will automatically execute.

1. Autonomy


One of the most advantageous highlights of limit orders is the ability to not have to babysit your portfolio. For this exact reason, many investors opt to purchase index funds as a “set-it-and-forget-it” strategy. However, some investors do elect to pick individual stocks and manage their own customized portfolio. Maybe you are the first or latter type of investor, and don’t necessarily monitor the live market price of your stock all day, every day when the market is open and want to minimize any chance of you missing the right opportunity to purchase or sell a particular stock. Limit orders can solve for this by serving as an avenue for you to dictate a future transaction based on a stock’s price. It’s like having your own assistant whom you’ve instructed to execute orders based on your price requirements.

2. exact price execution


Perhaps you wish to execute your trade at a particular price based on a mathematical analysis. Maybe you’ve computed the perfect price for a stock to be worthwhile selling at to lock in a profit, or a perfect round number to purchase a stock for. The market prices move very quickly, so sometimes the best way to make such a trade at a fixed price is a limit order trade.

3. Remove Emotion from the Game

A third benefit of limit orders is being able to trade in isolation from your emotions. When you see a stock or your portfolio going up or down or just being outright overly volatile, you may be likely to make impulse decisions. Rather than allowing these emotions and impulses influence your decision, a limit order can be a means of executing the trade based solely on your planned analytical, mathematical agenda.

I hope you found this helpful. As an exercise, why don’t you go ahead and try placing a limit-order for your very next transaction?

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August 31

5 Reasons to Avoid Dividend Stocks

As highlighted in an earlier write-up, dividend stock/portfolio or dividend income investing can be a great means of building an income stream or growing your portfolio. However, one should be aware of the potential risks or disadvantages of doing so as well.

Opportunity Cost

One obvious disadvantage of dividends is the opportunity cost. Sometimes, while you, as the investor are being awarded part of the excess cash flow from the business’s operations, you have to wonder, could this cash have been put to better use? Rather than paying us 7% as an annual dividend payout, what would be the outcome of the business (and in turn, me as the investor), if this 7% is instead reinvested into the operations or growth of the business?

forcing a taxable event

The moment you receive a dividend, you will realize income. And by law, you will be required to report this income next time you file your taxes. These proceeds will be tacked on to your ordinary income, and ultimately you’ll be subject to pay income taxes based on your overall income. Why put yourself in a situation where you’re forced to pay taxes? (Versus perhaps investing in a growth stock that pays virtually no dividend but appreciates and is only taxed if you sell the stock)

Dividends are an Illusion

The problem with many dividends is that they aren’t truly income. There may be a psychological factor associated with dividend stocks and dividend portfolios based on prospects and historical performance. However, the fact of the matter is, when you receive a dividend, your net worth doesn’t necessarily increase. If a $30 stock is set to payout $0.50 in the form of a dividend, for example, your balance during the event of the payout isn’t $30.50. It remains $30, because prior to you receiving $0.50 in the form of a dividend, the price of that $30.00 stock essentially diminishes to $29.50. So while you may be under the impression that you will have 1 stock worth $30, and a cash balance of $0.50 following the dividend payout ($30.50), you will actually have 1 stock worth $29.50 and a cash balance of $0.50 ($30.00). This, in connection to the above point about forcing a taxable event, makes many investors shy away from dividend stocks. Why receive dividends, which you later have to pay taxes on, especially when your portfolio value doesn’t really appreciate? (Unless the stock outperforms the dividend payouts)

Dividends are not Promised

Although many investors and retirees opt to use dividends as a means or psychological avenue of income security (to ultimately replace their jobs or live off of), the unfortunate news is that they aren’t always guaranteed. Although past performance and payouts may be a good indicator of future prospects, companies are not obliged to guarantee future payouts. In fact, many companies can and have eliminated, postponed or cut dividends for reasons such as poor company performance. During the Coronavirus Pandemic of 2020, for example, we witnessed some of the biggest companies cut dividends, such as Wells Fargo, Dick’s Sporting Goods and Estee Lauder. Still, if you prefer to invest in dividend stocks, it may be an option to shortlist those that are considered Dividend Aristocrats.

under-performance

One other disadvantage of dividend-based portfolios is that the market may outperform them. Especially for portfolios that do not employ Dividend Re-Investment Plan (DRIP) plans, you will tend to have stagnant cash from dividends in your portfolio rather than maximizing and fully allocating the capital to work for you at all times. This may prove to be a significant opportunity cost over a long period of time.

Ultimately, there is no right or wrong answer as far as whether or not one should employ a dividend investing portfolio strategy. Hopefully these write-ups equipped you to weigh the pros and cons yourself based on your specific needs and scenario. Thank you for your time and for

…paying…

attention.

Category: Stocks | LEAVE A COMMENT
June 30

5 Reasons Dividend Stocks are Awesome

There are various preferences among investors on what type of stocks they choose to invest in, and each have their pro’s and cons. Here, I will list out 5 advantages of dividend paying stocks:

Passive Income

Dividend stocks are literally passive income. You make an initial investment of stock(s), and reap in the rewards on a periodic basis. Watch those companies simply send you a cut of their profits while you sit back and relax.

Protection from market losses

One of the primary benefits of dividend paying stocks is that if you find yourself in the middle of a market correction (that is, stocks are losing value), in most cases you can still count on earning the dividends, so it is not all bad and the dividends may one day help recoup any market loss.

sense of stable income

Piggybacking on the last note, dividends are a form of somewhat stable income. If you choose your stocks wisely, such as those with a track record of sustaining and growing dividends for many consecutive years, you will maintain a sense of stable income.

You can reinvest (DRIP)

Dividend Reinvestment Plans are the icing on the cake. They really help add the compounded effect to your dividends. What I mean exactly is, say your $50 stock pays a $2 dividend. With DRIP enabled, that $2 you received will automatically be reinvested into the same stock, so instead of owning 1 share you will now own 1.04 shares, and so your next dividend payment will be more than the initial $2 dividend. The income will continue to grow as a result.

Retirement Strategy by many individuals

The great thing about dividend stocks is that many retirees opt to have them as a large portion of their portfolio to offset some risk and have a consistent income stream. For all of the reasons listed above, it certainly helps to diversify your risk and income by dedicating a part of your retirement portfolio to dividend paying stocks.

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