STOCK PICKING FOR BEGINNERS

1 June 2024

 

An interesting read on top 100 UK dividend payers

Here is the methodology for a dividend strategy that beats the index:

And here:

The method requires selecting a diversified set of stocks, yielding above three percent and checking the portfolio monthly.

The big frame from which all stocks seem to be selected is developed markets.

Then filter down to stocks yielding more than three percent.

Then filter further looking at valuation. Here it starts to get a bit complicated because the fair value of a stock is decided using discounted cash flow DCF, or possibly discounted dividend flow DDF. The method might discount at the company's weighted average cost of capital WACC, or it might discount at an investor's required return of return - say 7% or 10%.

So at this point you've got higher yielding stocks of good value in developed markets. But that's just a snapshot.

What about the quality of dividend payments overtime? As well as the yield, you want to look at dividend quality. Take the ten year history of dividend payments. Has the divi risen each year? And what has been the 5 and 10 year CAGR?

Then you want to look at the future sustainability of the dividend - there may be a good past record, but what is there to support optimism that that record continue? That's been covered in part by looking at the valuation, but it would be good to know that it's payout ratio - which is dividend over earnings per share - leaves some retained earnings for investment in the future; and also look at earnings prospects since at some point, the share price will follow earnings, down or hopefully up.... after all, dividends come out of earnings and price follows earnings. So we looked at the current yield, We looked at the history that got us here. And now we have looked at earnings prospects and dividend cover, supporting a bright future.

By this time, starting from all developed markets, you've picked out companies yielding more than 3%, they are good value because they are trading at a price below your estimate of value, the company has a good dividend track record, and the future looks rosy, as the rising earnings will assure a rising dividend. This is all around the income and cash statements.

You might like to check the financial health of the company. Are its liabilities covered by the sum of its cash and near term receivables? Is debt a threat relative to its earnings power, EBITDA? Interest payments over EBIT give an idea of the company's ability to cover its payment obligations and debt over equity gives an idea of its ability to raise a loan in times of difficulty. These four measures will give you a handle on the company's debt management.

And finally for the fundamental analysis, the real key to making money in the stock market is not so much stock selection as it is diversification. So we would want to pick a leading company in each industry and tune the size of the positions we take, as sectors rotate through the business cycle.

But that's not all because after dividend, value, quality and business cycle weighting, comes the fine timing of each buy sell transactions. By looking at the trend and momentum of the share price, you can sell at the crest of a wave and then reinvest at the trough. And maybe you should begin your busy schedule by taking a look at markets daily for swings in sentiment and news updates.

Anyway, that's what I understand so far. Which shows that any stock picking method is going to be hard work and a successful divided strategy is no exception. As you can imagine, simply getting all that data together in the first place is a full-time job-and-a-half that defeats 80% off fund managers.

Conclusions

Stock picking can be as difficult as you like, if you want to beat the index, and so for an easy life, Especially, if you are already quite busy with work and family, it would make sense to go for a tracker. Or at the limit, go for this guy's canned methodology, above in this article.

But if you want to chance it against the index, this is the best lecture I've seen so far, Aswath Damodaran is widely consulted and he makes it seem easy:

  

Otherwise, stick with Ramin, founder of Pensioncraft, he's pretty good:

On doing as little as possible:

On best index funds:

On best active funds:

On American debt:

On safe withdrawal rate:

Good luck everybody.