I have finished moving into my new house. Lately, I’ve been spending a lot of time working on the backyard to make it into something that not only looks beautiful, but provides food for me and my family. My primary project is making a self-sustaining ecosystem in the form of a pond (with freaking sweet waterfall of course!). We also plan on planting apple trees and berry bushes. It’s a lot of work now, but in the future, I’ll be glad I made these sacrifices today. Does this sound familiar? Building a passive income portfolio full of dividend growth stocks is very similar philosophy. Sacrificing today for a better tomorrow.
There is a Chinese proverb I really like: “The best time to plant a tree was 20 years ago. The second best time is now.” Planting a tree that will bare fruit means taking the time and energy to dig a hole, watering it diligently, and pruning where needed. You must work hard on the front end, but after it has had time to grow, you will be able to harvest fruits and berries without any extra effort.
Digging the Hole
Our most precious possession is time, so it is hard to dedicate it to things that we may not enjoy. Maybe it’s digging a hole, maybe it’s meeting new people, or maybe it’s your job. Many times, the things we don’t enjoy doing now are the things that will reward us in the future. Instant gratification benefits us today, but fills us with regret (or nostalgia) every day after, but delayed gratification is regretful today, but benefits us every day after.
As much as you might want to splurge and buy a new TV this weekend, the joy it will bring you is only temporary. In a year or 2 you will want a newer TV with a bigger crisper screen and cool new features. Alternatively, use that money to buy shares of Target (TGT). The great thing about dividend growth stocks, like Target, is that your very first dividend payment will be the lowest one you should ever receive from it. If you’re reinvesting the dividends, the next payment will be a little bit bigger. Then when the dividend distribution is increased next year, it will grow even more. So in 2 years, you’ll want a new TV, just like you would if you had already bought one, but you also now have a passive income stream that will keep growing throughout your life.
For most things to grow, you must nurture them to make sure the growth is healthy. Plants need water, relationships need attention, and your portfolio needs fresh investments for diversification. If your portfolio is to heavily weighted in one company or one sector, you run the risk of that company/sector facing hard times where dividends must be cut. By diversifying, you encourage natural growth and mitigate risk. I don’t believe in needlessly diversifying in bad companies just for the sake of diversification, the same way you wouldn’t try to plant an avocado tree in the tundra in case your apple tree doesn’t work out.
Prune Where Needed
It can be difficult to trim the branches you’ve worked so hard to grow, but when it comes to berry bushes, you have to prune the branches that have already produced berries, because the empty branches are the ones that will produce next year. The philosophy here is that when you can identify something that will no longer be benefiting you, it’s time to cut it. In an ideal world, the companies you invest in will never reduce or cut their dividends, but you need to be ready to sell them if they do. I like to say that if you buy smart, you’ll never need to sell, but things can change over several years. The stocks you buy should only be companies you are willing to own for 10+ years. It’s important that you can distinguish between a dividend cut and basic under-performance. If you sell a stock just because it is under-performing, you’ll miss out next year when they get their act together and over-perform. The only time to sell a dividend growth stock is if the dividend payment is going to be less than it was last year.