Can Patience Earn You A 10% Dividend Yield?

As investors, I am sure you can all appreciate that if your typical investment return is only in the 3% to 4% range you will have challenges. There isn’t too much left after inflation and taxes with this rate of return to maintain your lifestyle over several decades of retirement. If you could earn a steady and dependable income of 8% per year from your investments, many of your financial problems would disappear. You would have enough to fund a comfortable lifestyle while keeping ahead of inflation. A 10% return would be even better for you. With this type of return your lifestyle options would begin to increase and you would have increased financial security. Is this type of return just wishful thinking or is it possible?

Here is a story about an imaginary investment product that might meet this goal and how it could be marketed to you. Let’s assume you have some money to invest and your goal is to produce a steady income. The income may be used to fund your current retirement or just reinvested to grow your future retirement portfolio. The September 26, 2016 five-year GIC rates show Royal Bank is offering 1.4%, CIBC’s rate is 1.5 % and some banks you have never heard of are paying 2%. Regardless of which bank you choose the outcome is poor. Once you pay tax on your GIC income and knowing that 2015’s inflation rate was about 1.5%, you can see that you are not keeping up with inflation. Your purchasing power during the next year will be shrinking. You actually are going backwards. This investment is ‘guaranteed’ to make you poor slowly. What do you do?

You notice my very first ad in Canadian MoneySaver. It is for NGIC (Not GIC) investment product offered by Ross’ Bank. It offers a spectacular 4.1% yield, which is 1.9 times higher than the Royal Bank GIC rate. Said another way, if the GIC pays you $100 per year, the NGIC is paying $290 per year. On top of this great rate, Ross’ Bank says that they ‘may’ increase the annual payment. This could be anywhere from 5% to 11% per year, based on performance data from the last five years, but there could also be no increase. Taking the income payment of $290 per year as an example, a 5% per year increase could mean that the annual payment could grow to $352 by the fifth year. A 10% per year increase would produce a $424 payment in the fifth year. Yes, there is variability in the increase, but the worst case of no increase in any of the years, leaves you with the same $290 per year payment you started with. Since GICs do not increase your payments ever, the potential of payment increases is better than the GIC.

There are a couple of other selling points at the bottom of the ad. The first one indicates the payment of the NGIC has preferential tax treatment so you pay less taxes on the income compared to interest income from a GIC. The last selling point says that depending on the market behaviour you may ‘not’ receive all your investment back or you may receive much more than you put in. That point has you a bit nervous but the ad points out those investors with five-year NGIC’s maturing this year made a bonus of 57%. Wow!

The fine print in the ad says that the return of your capital is not guaranteed and thus the name, Not GIC. To put the risk in perspective, it points out that over a holding period of many decades the investors have done very well. Their capital has not only been returned, but has grown.

This all sounds like an exciting investment but before you can buy your first NGIC, Ross’ Bank goes bankrupt. You assume that the bankruptcy was because of the fraudulent product that sounded too good to be true, but that was not the case. The NGIC was in fact a great product and could be purchased just as described. The problem was that a recent Canadian MoneySaver article exposed the NGIC as just being Royal Bank (RY) stock that Ross’ Bank was reselling. Once readers knew this, they bought the stock directly and Ross’ Bank revenue dropped to zero and the doors were shut for good.

The Truth Exposed

By creating this fictitious ad for you I hoped to catch your attention to the spectacular benefits that can come to owners of dividend-paying stocks that have the ability to increase their dividend payments. I chose Royal Bank for this example because it was the first one that came to mind, but all of the major Canadian banks have similar stories. This is also true of many of the BTSX stocks and other dividend-paying stocks that don’t make it onto that list.

You may be asking, “Where does the 10% steady income goal fit into this dividend-paying stock?” How does Royal Bank stock help to reach that goal? Table 1 indicates the purchase of RY on Dec 2001, with a dividend of $0.60, generated a yield of 2.3%. There were steadily increasing dividends for the first 6 years. There was even one year with a 30% increase. Then the financial crisis hit. Scary times with no increase for three years. Fortunately, there weren’t any cuts for this dividend stock. US banks did not fare as well. By 2013, twelve years after the purchase, the dividend had increased to $2.68 and was yielding 10.3% on the original stock investment of $25.92. As an investor wanting a 10% yield on the original investment, you have met your goal, although you had to wait for twelve years.

Some of you may be thinking it seems silly to wait 12 years to earn a 10% return, but it is not. The income increased every year to a point where that income equalled 10% of the original investment. Day to day stock price wasn’t important. You have hit your income goal. What is most important is the dividend income that is being paid to you. The fact that the stock has made a capital gain is just a nice bonus.

From the data you can see that the dividend increases continued and the income on your original investment rises to over 12% as of late 2016. Over the 15 years the total dividends paid will be $30.16 and the stock is now worth $81, which is 3.2 times the original investment of $25.92. If you can fully appreciate these returns you will be saying to yourself, “Fabulous! This kind of return would really secure my financial future no matter what my goals are.”

The typical way to report a stock’s return is to include dividends and capital gains. RY’s return is approximately 13.6% per year over the last 15 years. This compares to the current GIC rate of 1.4% offered by the same bank. Remember, these results include the 3-year financial crisis. Imagine what they might have been in a 15-year period without the greatest stock market meltdown since the Great Depression. These numbers shouldn’t require any marketing plan to convince someone that they should invest in the bank stock rather than the GIC. I know this is all backwards looking data but once you buy a dividend-increasing stock and wait awhile, the data will become your story of a great investment you made many years ago.

Ross Grant is the e-book Author of Destination: Early Financial Independence, available on Amazon and Kobo for $5.99. Free e-reader software is available for PCs, MACs, etc. to view the books. Please email Ross if you need the links. You can reach him at RossGrantEFI@gmail.com