This article’s title is a play on the title of a recent article by Dividend Growth Investor, “The dumbest argument against dividend paying stocks.” In it the writer uses a straw man argument to misrepresent criticisms of dividend investors who ignore past “solid dividend-paying stocks” that subsequently performed poorly or went bankrupt.
I won’t repeat DGI’s points here, but will point out two mistakes that many (but not all) dividend investors make when they ignore the existence of past solid dividend-paying stocks that faltered.
1. Too many dividend investors own far too few stocks.
In Canada, many people who consider themselves dividend investors own nothing but a few of the big bank stocks. This worked well in the past, but is risky for the future. The failure of just one of their holdings would be very harmful to their portfolios.
One of the problems here is the stories we hear occasionally about an elderly person who became rich holding onto just one stock. Concentrated portfolios will always give both the best and worst results. We rarely hear stories of the many investors who hold a single stock for decades and eventually lose most of their money. It’s the rare few who happened to hold a long-time winner that make better stories.
2. Many dividend investors look at the past long-term track record of their current holdings and conclude that their investing approach is superior to other forms of investing.
This is an extreme case of survivorship bias. By looking only at companies with no blemishes for decades, you’re necessarily excluding those companies that faltered. When we screen for good dividend stocks today and imagine having held them since the distant past, we are using recent information that wasn’t available back at the time we imagine having invested the money. This creates unrealistic expectations for future returns.
If we were to go back 50 years and create a dividend portfolio based on only the information available back then, many of the stocks we selected would have had problems in later years. Of course, all other strategies will pick some losers as well. All this doesn’t make dividend investing bad; it just means that dividend investing is not superior to other forms of investing such as index investing.
It’s certainly possible to get acceptable results from dividend investing. The key is to be adequately diversified and to not to have unreasonably high expectations. If all dividend stocks continued their exceptional performance indefinitely, then a dividend-based portfolio would certainly outperform. But investors can’t count on this. The reality is that some of their beloved stocks will falter. The likelihood of outperforming the market over the long-term is very small.