Total return vs dividends

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freeat56
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Total return vs dividends

Post by freeat56 » Wed Mar 28, 2018 10:00 pm

I understand that in theory, focusing on total return and selling shares to generate cash is just as good as or perhaps better than relying on dividends for cash flow in retirement. However, I’m having a mental block on what this means in practice.

If my portfolio will generate enough dividends and interest to fund my day-to-day living expenses without having to sell any shares, isn’t it an easier way to generate cash than to have to sell securities periodically to generate the cash needed? My other question is that if my portfolio generates consistent dividends and interest income, I’ll never be forced to sell shares when the market is down. Having gone through several recessions during my working career, it was always a good feeling not to “have” to sell at any particular time. If one relies on total return and therefore sells shares to generate cash, how do you get comfortable with the idea that you’re sometimes selling shares at a loss?

MotoTrojan
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Re: Total return vs dividends

Post by MotoTrojan » Wed Mar 28, 2018 10:09 pm

freeat56 wrote:
Wed Mar 28, 2018 10:00 pm
I understand that in theory, focusing on total return and selling shares to generate cash is just as good as or perhaps better than relying on dividends for cash flow in retirement. However, I’m having a mental block on what this means in practice.

If my portfolio will generate enough dividends and interest to fund my day-to-day living expenses without having to sell any shares, isn’t it an easier way to generate cash than to have to sell securities periodically to generate the cash needed? My other question is that if my portfolio generates consistent dividends and interest income, I’ll never be forced to sell shares when the market is down. Having gone through several recessions during my working career, it was always a good feeling not to “have” to sell at any particular time. If one relies on total return and therefore sells shares to generate cash, how do you get comfortable with the idea that you’re sometimes selling shares at a loss?
You seem to understand how it works in practice but are hung up on the emotional aspect.

Do you understand/agree that just because a stock/fund pays a high dividend, does not mean it will have a higher total return than one that has a more average (or no) dividend? If so, then you have admitted there is no logical (emotions matter) difference between living off the high-dividends, or selling shares of the other fund to get the same withdrawal rate.

If you can live off the 1-2% a broadly diversified portfolio will kick off, then you are set, but not because of that fact; it is because you have 50-100x expenses saved and thus a very low withdrawal rate.

Building a high-dividend portfolio requires a reduction in diversification, which is the only free lunch. While it may be easier to just live off the dividends, you are ultimately worse off since you are taking on more risk by holding less equities, and not being compensated (at-least not monetarily) for that extra risk.

I'd rather sell shares at a loss and have a reduction in taxes, than pay extra on dividends. This is purely in your head. If the dividend yield increases such that the dollar amount of the dividend is fixed as the share price decreases, you feel like you aren't selling at a loss, but you are eating away at the value of the remaining shares and thus won't have as much to gain when the market rebounds. It is an identical situation to selling at a loss, except for it is worse off tax-wise in a taxable account at-least. And then what happens if the dividend is cut/eliminated...
Last edited by MotoTrojan on Wed Mar 28, 2018 10:12 pm, edited 1 time in total.

alex_686
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Re: Total return vs dividends

Post by alex_686 » Wed Mar 28, 2018 10:10 pm

freeat56 wrote:
Wed Mar 28, 2018 10:00 pm
If my portfolio will generate enough dividends and interest to fund my day-to-day living expenses without having to sell any shares, isn’t it an easier way to generate cash than to have to sell securities periodically to generate the cash needed?
It is easier to think about it this way because it involves a couple of mental shortcuts and false assumptions on how the world works. It is a trap.
freeat56 wrote:
Wed Mar 28, 2018 10:00 pm
My other question is that if my portfolio generates consistent dividends and interest income, I’ll never be forced to sell shares when the market is down. Having gone through several recessions during my working career, it was always a good feeling not to “have” to sell at any particular time. If one relies on total return and therefore sells shares to generate cash, how do you get comfortable with the idea that you’re sometimes selling shares at a loss?
Sure, it feels good to receive a constant flow of dividends. However, what I actually care about my actually returns and the ability to meet my goals. During recessions companies go bankrupt and cut dividends, and all of a sudden you can't you goals.

Dividends foster a false sense of security, which is dangerous. Stocks that deliver more of their returns via dividends tend to be more risky.
Former brokerage operations & mutual fund accountant. I hate risk, which is why I study and embrace it.

delamer
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Re: Total return vs dividends

Post by delamer » Wed Mar 28, 2018 10:15 pm

It isn’t clear what you mean by dividends and interest being “an easier way to generate cash.” It is pretty easy to put in a sell order for stocks/bonds as needed.

Your portfolio won’t generate consistent dividends and interest income. Take a look at dividends for the S&P 500 over the last 20 years; they have varied a lot. Companies cut their dividends when times are bad and raise them when times are good.

You should investigate the bucket system for retirement savings. You keep a few years of expenses in cash, several more years in bonds, and the rest in stocks. So you can withdraw from cash and bonds in the event of an extended decline in stocks, and not have to sell stocks low.

Ultimately, if you decide to live off dividends and interest then you are constraining your spending relative to relying on total return. Either that or you need to have a much larger nest egg in order to support a specific spending level.

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galeno
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Re: Total return vs dividends

Post by galeno » Wed Mar 28, 2018 10:37 pm

A portfolio composed of 50% Intermediate term US treasuries + 50% FTSE all world equities generates a portfolio yield of 2.35%. An AWR (annual withdrawal rate) of 2.35%.

Assuming a term of 30 years most people want an AWR of 3 to 4%.

A lot of income investors will try to get their portfolio's yield to 3-4% by using riskier bonds and or excluding non-dividend yielding stocks from their portfolios. This is almost always a bad idea.

The above portfolio will have a nominal CAGR (compound annual geometric return) of about 4%. This means 60% price appreciation + 40% portfolio yield. 2.4% price appreciation + 1.6% portfolio yield = 4.0%.

Dividends are NOT magic money. They come from that CAGR. The more portfolio yield you demand from your port, the less price appreciation the port will deliver.
USA-NRA. TER = 0.28%. Expected real CAGR = 2.00%. AWR = 4.00%.: Port: 50% World Stocks + 15% TIPS + 15% Corps + 15% US Treas + 5% CASH.

Longtermgrowth
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Re: Total return vs dividends

Post by Longtermgrowth » Wed Mar 28, 2018 11:43 pm

I think the easiest and most logical way to view dividends is that they are part of the total return.
Compare Vanguards S&P 500 ETF, VOO, with a dividend yield of around 2%, to Vanguards High Dividend Yield ETF, VYM, yielding around 3%.
If future returns remain close for both funds, then not reinvesting dividends in both funds will leave the NAV (net asset value) of VYM 1% lower every year. There would be no different effect on VOO's final outcome simply selling shares to match VYM's dividend (both funds end value would be equal).

I'm not sure what you've read or believe about the value premium, but that's one thing VYM has going for it. The portfolio is tilted to value stocks, and it may, if the premium persists, edge out ahead in total return over a long period of time. The value premium has always been greater in small cap stocks though, so with VYM being market cap weighted, it is mostly large caps.

Hopefully the above helps some. It all comes down to withdrawal rate, and the 4% rule has been mentioned a lot around here over the years. 4% could very well deplete a portfolio over a long enough period of time. I think based on what we know historically, the perpetual withdrawal rate may be around 3%, assuming the portfolio has a high enough percentage of stocks. Of course who knows what the future holds. After years reading here, these are the things I've gathered so far.

mega317
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Re: Total return vs dividends

Post by mega317 » Thu Mar 29, 2018 1:50 am

I would be comfortable selling at a loss because it beats the alternative which is working way longer than I'd need to in order to avoid having to ever sell.
https://www.bogleheads.org/forum/viewtopic.php?t=6212

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ogd
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Re: Total return vs dividends

Post by ogd » Thu Mar 29, 2018 2:33 am

freeat56 wrote:
Wed Mar 28, 2018 10:00 pm
I understand that in theory, focusing on total return and selling shares to generate cash is just as good as or perhaps better than relying on dividends for cash flow in retirement. However, I’m having a mental block on what this means in practice.

If my portfolio will generate enough dividends and interest to fund my day-to-day living expenses without having to sell any shares, isn’t it an easier way to generate cash than to have to sell securities periodically to generate the cash needed?
The part that you're missing (and the one I know I was missing) is that total return is with dividends reinvested. So selling shares or spending dividends leads to the same thing vs the person not selling anything - fewer shares.
freeat56 wrote:
Wed Mar 28, 2018 10:00 pm
My other question is that if my portfolio generates consistent dividends and interest income, I’ll never be forced to sell shares when the market is down. Having gone through several recessions during my working career, it was always a good feeling not to “have” to sell at any particular time. If one relies on total return and therefore sells shares to generate cash, how do you get comfortable with the idea that you’re sometimes selling shares at a loss?
If one assumes that investor A taking dividends from stock or fund X did better that investor B selling shares of a stock or fund Y that has fewer or no dividends, i.e. they were left with more after a certain period, it immediately follows that the total return with dividends reinvested of X must have been higher than the total return of Y for at least part of the period. Try it with some numbers if you don't believe me. So focusing on total return is right - it tells you the full story, and the numbers are readily available without having to simulate witdrawals. In practice we find that dividend stocks are no better at protecting from recessions than other stocks, and it's other factors that matter - like size or value and the kind of stocks - utilities vs banks in 2008, for example.

It might be harder mentally, but just tell yourself.that that's the nature of the beast and if you need money during a recession there are no good ways to get it from stocks. That's what bonds are for. What sweetens the deal if you have taxable stocks is getting a nice deduction, contrary to what you get from dividends.

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Re: Total return vs dividends

Post by SGM » Thu Mar 29, 2018 3:36 am

My problem with dividends is that they are not as tax efficient as selling stock in taxable accounts. Taxes confer and advantage on home-made dividends, likely more than the offsetting brokerage commissions for selling stock. Many years ago it was expensive to sell stock, but not so today. Dividends in taxable accounts are a drag on return due to yearly taxation unless your income is low.

Company-paid dividends have an advantage over home-made dividends because they help in the exercise of self-control. Some people use living off dividends as a method to help prevent them from taking larger impulsive withdrawals from their portfolios. Rational BHs scoff at this as a "crutch".

If you have enough investments to not sell stock then you could likely live off of dividends alone. It may help with self-control, but will not be as tax efficient as using home-made dividends.

I agree with other posters that the focus should be on total return. Now that I am retired I find that cash and bonds have a role to play for us.

jarhead1
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Re: Total return vs dividends

Post by jarhead1 » Thu Mar 29, 2018 5:21 am

what's a home made dividend?

Dandy
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Re: Total return vs dividends

Post by Dandy » Thu Mar 29, 2018 5:41 am

If you haven't overly focused your investments on yield or dividends and they provide enough income you are in a good place. I see no need to sell equities or fixed income as long as your equity/fixed income allocation fits your risk tolerance.

Just enjoy your good fortune. The untouched portfolio, except for rebalancing, will work on the total return.

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Re: Total return vs dividends

Post by rkhusky » Thu Mar 29, 2018 6:01 am

freeat56 wrote:
Wed Mar 28, 2018 10:00 pm
My other question is that if my portfolio generates consistent dividends and interest income, I’ll never be forced to sell shares when the market is down.
If the stock market is down, then one would sell bonds for living expenses. And then further rebalance if necessary, by selling more bonds and buying stocks. Or rebalance by selling bonds and buying stocks, and then selling bonds and stocks for living expenses. It works out to be the same in the end.

If both stocks and bonds fall, it is much more likely that stocks would fall further. So, the above would still apply.

And note that, when a dividend is paid, the stock price goes down. So, if you direct the dividend to your savings account for spending, then the value of your stock portfolio will drop, just like if you had sold shares of stock equivalent to the value of the dividend. If the dividend is large enough, you may even have to sell bonds to rebalance.

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Re: Total return vs dividends

Post by tennisplyr » Thu Mar 29, 2018 6:37 am

rkhusky wrote:
Thu Mar 29, 2018 6:01 am
freeat56 wrote:
Wed Mar 28, 2018 10:00 pm
My other question is that if my portfolio generates consistent dividends and interest income, I’ll never be forced to sell shares when the market is down.
If the stock market is down, then one would sell bonds for living expenses. And then further rebalance if necessary, by selling more bonds and buying stocks. Or rebalance by selling bonds and buying stocks, and then selling bonds and stocks for living expenses. It works out to be the same in the end.

If both stocks and bonds fall, it is much more likely that stocks would fall further. So, the above would still apply.

And note that, when a dividend is paid, the stock price goes down. So, if you direct the dividend to your savings account for spending, then the value of your stock portfolio will drop, just like if you had sold shares of stock equivalent to the value of the dividend. If the dividend is large enough, you may even have to sell bonds to rebalance.


+1. It's very important to understand this.
Those who move forward with a happy spirit will find that things always work out.

dbr
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Re: Total return vs dividends

Post by dbr » Thu Mar 29, 2018 8:01 am

I'm convinced that the major source of confusion on this is getting mixed up between how a person manages cash flow when withdrawing from a portfolio and the completely separate issue of how a person keeps account of what is happening to his investments. I guess I could list a couple of points:

1. Taking and spending whatever dividends are paid is perfectly reasonable. If you want to withdraw some money from your portfolio why would you not do this for convenience. In fact, in taxable holdings reinvesting the dividend and then selling shares might add some capital gains tax to the already paid tax on dividends. So "total return" is not a "method" that says you can't spend your dividends.

2. But, trying to arrange so that dividedns is the only way you can withdraw from your portfolio makes no sense. In the first place it is unnecessary. In the second place it limits your cash flow income to whatever dividends you have been able to arrange even if that is not what you really want. In the third place it might impel an investor to make bad investment choices chasing dividends.

3. No matter how one takes withdrawals from a portfolio, including any combination of cashing dividend checks and selling shares, the investor needs to track what is happening to his portfolio in a mathematically correct way. Total return is a mathematical quantity defined in such a way that the investor can relate growth of portfolio, return, and withdrawals in a self consistent manner and know what is going on. Doing correct accounting has nothing to do with any "method" for managing withdrawals. Very often dividend investors are reminded to look at total return because attending to only how money is withdrawn leaves the investor ignorant of what is happening to the portfolio. This little misunderstanding about what happens to the value of an investment when a dividend is paid out is one example of that. Recognizing that a safe rate of withdrawal is determined by a relationship between withdrawals and total return and not by the fact that a withdrawal is a dividend is another example of that.

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Re: Total return vs dividends

Post by dbr » Thu Mar 29, 2018 8:15 am

jarhead1 wrote:
Thu Mar 29, 2018 5:21 am
what's a home made dividend?
Selling shares to make your withdrawal rather than cashing a dividend check. The term is a twist on a twist. The first twist is the mistaken idea that the way to withdraw from a portfolio is to cash dividend checks. The second twist is to make it all right by calling selling shares "home made dividends." It is either a way to understand selling shares really is alright or it is a dig against all of the misperceptions about dividends.

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Re: Total return vs dividends

Post by radiowave » Thu Mar 29, 2018 8:22 am

Another perspective, assuming we are discussing dividends in a taxable account, is to use these as an opportunity to rebalance. For example, if someone in late accumulation phase wants to move to a more conservative portfolio say from 60/40 to 40/60, the dividends could be used to purchase municipal bond funds or treasuries as part of an overall strategy of asset reallocation over time.
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alex_686
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Re: Total return vs dividends

Post by alex_686 » Thu Mar 29, 2018 8:55 am

dbr wrote:
Thu Mar 29, 2018 8:15 am
jarhead1 wrote:
Thu Mar 29, 2018 5:21 am
what's a home made dividend?
Selling shares to make your withdrawal rather than cashing a dividend check. The term is a twist on a twist. The first twist is the mistaken idea that the way to withdraw from a portfolio is to cash dividend checks. The second twist is to make it all right by calling selling shares "home made dividends." It is either a way to understand selling shares really is alright or it is a dig against all of the misperceptions about dividends.
OP, here is another active thread on Berkshire Hathaway. It is famous for having a high return and never paying dividends. It digs a bit more into the theory. Warren Buffet has suggested that selling shares is the correct way to generate cash-flow for his family who holds this stock.

viewtopic.php?f=10&t=245413
Former brokerage operations & mutual fund accountant. I hate risk, which is why I study and embrace it.

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Re: Total return vs dividends

Post by grayfox » Thu Mar 29, 2018 10:38 am

freeat56 wrote:
Wed Mar 28, 2018 10:00 pm
I understand that in theory, focusing on total return and selling shares to generate cash is just as good as or perhaps better than relying on dividends for cash flow in retirement. However, I’m having a mental block on what this means in practice.
Spending only the dividend vs. spending total return. Neither are are good idea.

With 1.77% dividend yield, spending the dividend would withdraw too little.
On the other hand, spending total return would be withdraw too much.

E.g. according to Vanguard, 2017 VFINX TR = 21.67%.
2.18% was from dividend income and 19.48% was from price increase.
How much of the 19% price increase was from earnings growth and how much from CAPE expansion?
CAPE went from 27.87 to 32.30, 15.90%.
Most of the TR came from CAPE expansion, i.e. John Bogle's speculative return.

Withdrawing the Total Return each year would not be sustainable.
Sic transit gloria mundi. [STGM]

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Re: Total return vs dividends

Post by RAchip » Thu Mar 29, 2018 10:45 am

Around 2014 I built a portfolio of individual stocks paying dividends at the time of over 3%. The core of the portfolio is MSFT, LMT, INTC, JNJ, MCD, MO, AMGN, LLY, UPS, VZ. My “dividend” portfolio pays me a lot more cash now than when I bought it and the market value of the portfolio is up dramatically. My largest holding, MSFT is alone up well over 100%. I think that buying companies who are committed to pay a reasonable dividend AND GROW it evey year is a good investment strategy if you want steady income and long term capital appreciation. I prefer this approach over selling shares to produce income. But to each his own.

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Re: Total return vs dividends

Post by aburntoutcase » Thu Mar 29, 2018 10:49 am

alex_686 wrote:
Wed Mar 28, 2018 10:10 pm
Dividends foster a false sense of security, which is dangerous. Stocks that deliver more of their returns via dividends tend to be more risky.
So you are saying that consumer staples and utility stocks are more risky than then other stocks? This is absolutely not supported by the data we have. Check the total returns and standard deviations of XLP and XLU vs. other S&P 500 sector ETFs. I would agree that generally speaking higher dividend yield stocks are slower earnings growers and should theoretically be at a total return disadvantage. In practice the total return difference seems minor, real issue is more of diversification.

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patrick013
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Re: Total return vs dividends

Post by patrick013 » Thu Mar 29, 2018 11:17 am

Actually most dividend stock funds have less volatility
measures than non or low dividend payers. Dividend
growers should maintain yield to cost thru a rising
interest rate period but who knows ? Stable or rising
dividends are a sign of earnings quality in that case
which helps in price appreciation.

But overall, rising interest rates are usually bad times
for the high dividend factor funds. REIT's, Utilities,
and even MLP's have shown NAV weakness at the start of
interest rate increases. So a better idea would be to
wait till interest rates peak to increase AA for ticker
SPYD, for example, or to go long term on bond funds. That
should work out "a posteriori". Even after taxes a yield
weighted dividend index can beat the 500 index fund.

Just some more market timing I guess.
age in bonds, buy-and-hold, 10 year business cycle

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Re: Total return vs dividends

Post by pkcrafter » Thu Mar 29, 2018 12:20 pm

freeat56 wrote:
My other question is that if my portfolio generates consistent dividends and interest income, I’ll never be forced to sell shares when the market is down.


Taking dividends is, in effect, selling. The big problem with taking dividends is you cannot control when to make withdrawals, so yes, you will be making withdrawals when the market is down. Dividends are withdrawal of total return.

Here is a chart demonstrating what the effect of taking dividends is doing. The result is the same, or worse, than simply making a withdraw when you need to. Reinvesting dividends buys more shares, which is good in a rising market. Taking dividends in a falling market is not good.

http://www.indexologyblog.com/wp-conten ... /500TR.jpg

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aburntoutcase
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Re: Total return vs dividends

Post by aburntoutcase » Thu Mar 29, 2018 12:28 pm

If someone is going to pick a high dividend yield fund I wouldn't go with funds like SPYD or DVY that are too focused on just dividend yield. It has been shown that if you rank dividend payers by yield quintiles the best returns are not in the highest quintile by yield but the second highest one (in the top quintile the problem really seems to be with the highest decile where their yields are a sign of distress). Focusing on just yield will also result in higher turnover.

Funds with better construction methodology in terms of diversification, lower turnover and quality are VYM and SCHD. Generally they tend to have a dividend yield that is only 1%-1.25% higher than the S&P 500, over past recent years in 3.0-3.3% range. Once you get more than 1%-1.25% higher than market usually it involves a big sector bet.

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Re: Total return vs dividends

Post by engineerartist » Thu Mar 29, 2018 1:31 pm

RAchip wrote:
Thu Mar 29, 2018 10:45 am
Around 2014 I built a portfolio of individual stocks paying dividends at the time of over 3%. The core of the portfolio is MSFT, LMT, INTC, JNJ, MCD, MO, AMGN, LLY, UPS, VZ. My “dividend” portfolio pays me a lot more cash now than when I bought it and the market value of the portfolio is up dramatically. My largest holding, MSFT is alone up well over 100%. I think that buying companies who are committed to pay a reasonable dividend AND GROW it evey year is a good investment strategy if you want steady income and long term capital appreciation. I prefer this approach over selling shares to produce income. But to each his own.
It seems to me that much of the mis-information propagated here regarding dividends is ignoring the difference between dividends produced by ETFs and MFs and dividends issued by individual stocks. While it is true that both are taxable, the dividends produced by ETFs and MFs immediately reduce the NAV of the fund, while the dividends produced by individual stocks do not automatically affect their market price.

Like RAchip, I have chosen to hold a sector-diverse collection of dividend-paying stocks in both my IRA and taxable portfolio. Each stock was chosen for the number of years of consistently increasing dividends (27.3 years average in my IRA, 22.3 years average in my taxable portfolio). Also like RAchip, the "real" return and market value of both has increased, but my focus in retirement is income - which has also increased each year.

In fact, the dividends produced in my IRA are more than sufficient to cover my RMD - and based on my projections, will continue to do so for the foreseeable future. Since the RMD is based on year-ending market value, the oft-predicted Bull Market could actually reduce the amount required.

I realize this approach is antithetical to the Index fund tenant of the Boglehead investment philosophy, but I wholeheartedly practice, support and advocate all the others:
  • Develop a workable plan
  • Invest early and often
  • Never bear too much or too little risk
  • Diversify
  • Never try to time the market
  • Use index funds when possible
  • Keep costs low
  • Minimize taxes
  • Invest with simplicity
  • Stay the course
But as RAchip said - to each his own.
Retired - dividend growth investor

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patrick013
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Re: Total return vs dividends

Post by patrick013 » Thu Mar 29, 2018 1:41 pm

aburntoutcase wrote:
Thu Mar 29, 2018 12:28 pm

Funds with better construction methodology in terms of diversification, lower turnover and quality are VYM and SCHD.
The yield is the metric in studies that have the highest total return. Taking
out special dividend payments (tax penalty avoidance dividends) is almost
always done by most funds which leaves the fund with stocks with an
acceptable overall payout ratio. Yield or equal weighting has the most
success. VYM just doesn't qualify. SCHD isn't too bad as it has a modified
market cap weighting. Read something by O'Shaughnessy about dividends.

See Exhibit 10 below. He'd probably approve of these indexes and funds.
S&P Dow Jones indexes are a pretty good market sample.
S&P Dividends

Just FYI.
age in bonds, buy-and-hold, 10 year business cycle

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aburntoutcase
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Re: Total return vs dividends

Post by aburntoutcase » Thu Mar 29, 2018 2:03 pm

patrick013 wrote:
Thu Mar 29, 2018 1:41 pm
The yield is the metric in studies that have the highest total return. Taking
out special dividend payments (tax penalty avoidance dividends) is almost
always done by most funds which leaves the fund with stocks with an
acceptable overall payout ratio. Yield or equal weighting has the most
success. VYM just doesn't qualify. SCHD isn't too bad as it has a modified
market cap weighting. Read something by O'Shaughnessy about dividends.

See Exhibit 10 below. He'd probably approve of these indexes and funds.
S&P Dow Jones indexes are a pretty good market sample.
S&P Dividends
Weighting by yield is guaranteed to result in higher turnover than modified market cap weighting and hence reduced after-tax returns (assuming stock is in taxable). If highest total return is what you are seeking than focusing on yield is anyway an inferior strategy to focusing on low P/E. Plenty of papers show that Q2 dividend yield stocks outperform Q1 dividend yields stock with higher frequency. You can also check real-world returns of something like VYM and SCHD against those like DVY.

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Re: Total return vs dividends

Post by MichaelRpdx » Thu Mar 29, 2018 2:09 pm

galeno wrote:
Wed Mar 28, 2018 10:37 pm
A portfolio composed of 50% Intermediate term US treasuries + 50% FTSE all world equities generates a portfolio yield of 2.35%. An AWR (annual withdrawal rate) of 2.35%.

Assuming a term of 30 years most people want an AWR of 3 to 4%.
However the OP wrote:
freeat56 wrote:If my portfolio will generate enough dividends and interest to fund my day-to-day living expenses without having to sell any shares...
The dividend stream fully covers the spending need. freeat56 doesn't need to calculate a SWR. They already have it.
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patrick013
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Re: Total return vs dividends

Post by patrick013 » Thu Mar 29, 2018 2:18 pm

aburntoutcase wrote:
Thu Mar 29, 2018 2:03 pm
patrick013 wrote:
Thu Mar 29, 2018 1:41 pm
The yield is the metric in studies that have the highest total return. Taking
out special dividend payments (tax penalty avoidance dividends) is almost
always done by most funds which leaves the fund with stocks with an
acceptable overall payout ratio. Yield or equal weighting has the most
success. VYM just doesn't qualify. SCHD isn't too bad as it has a modified
market cap weighting. Read something by O'Shaughnessy about dividends.

See Exhibit 10 below. He'd probably approve of these indexes and funds.
S&P Dow Jones indexes are a pretty good market sample.
S&P Dividends
Weighting by yield is guaranteed to result in higher turnover than modified market cap weighting and hence reduced after-tax returns (assuming stock is in taxable). If highest total return is what you are seeking than focusing on yield is anyway an inferior strategy to focusing on low P/E. Plenty of papers show that Q2 dividend yield stocks outperform Q1 dividend yields stock with higher frequency. You can also check real-world returns of something like VYM and SCHD against those like DVY.
If dividend factor study is what we want just read O'Shaughnessy. After tax he beats
the 500. The other info has been accounted for. Ticker SPHD is also interesting, that
and SPYD. I'm sure his indexes are mostly Q2.
age in bonds, buy-and-hold, 10 year business cycle

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aburntoutcase
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Re: Total return vs dividends

Post by aburntoutcase » Thu Mar 29, 2018 2:32 pm

SPHD and SPYD sector diversification is terrible. They are big bets on Utility and REIT stocks, 45-50% allocation to those two sectors which are only about 5% of the S&P 500 by market cap. I wouldn't want to bet my life savings on two very slow earnings growth sectors whose yields are low by their historical standards and valuations are high.

You can do all the experimental thinking you want, in real world once you have a large portfolio and want to protect downside, you need diversification by sector and holdings and low low turnover to keep tax friction low. Both the Vanguard VYM and Schwab dividend funds SCHD avoid large sector bets because of the way they are constructed and cap weighting keeps turnover low. Yes this also means that you currently need to live with a 3.0% dividend yield but that is what it takes to be safe and diversified. A 3.0% yield puts one at middle of Q2 (2.5%) and Q1 (3.5%) dividend yield quintile breakpoints, which is where these funds usually end up. That is the sweet spot.

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Re: Total return vs dividends

Post by onourway » Thu Mar 29, 2018 2:37 pm

engineerartist wrote:
Thu Mar 29, 2018 1:31 pm

Like RAchip, I have chosen to hold a sector-diverse collection of dividend-paying stocks in both my IRA and taxable portfolio. Each stock was chosen for the number of years of consistently increasing dividends (27.3 years average in my IRA, 22.3 years average in my taxable portfolio). Also like RAchip, the "real" return and market value of both has increased, but my focus in retirement is income - which has also increased each year.
The key question regarding the average number of years of increasing dividends is how many of those years have you owned that stock? Creating a portfolio of stocks that have paid dividends reliably in the past is essentially the equivalent of building a portfolio of mutual funds based on the last 10 or 20 years performance. It means zip about how they will perform over the next 10-20 years.

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Re: Total return vs dividends

Post by patrick013 » Thu Mar 29, 2018 3:09 pm

aburntoutcase wrote:
Thu Mar 29, 2018 2:32 pm
A 3.0% yield puts one at middle of Q2 (2.5%) and Q1 (3.5%) dividend yield quintile breakpoints, which is where these funds usually end up. That is the sweet spot.
What is the purpose of a dividend factor fund ? Sometimes you have to go
where the yield is and that is where it is. Cap weighting is futile. Actually
O'S excludes utilities from his indexes because of their higher dividends and
resulting weight in his findings. The U.S. SELECT DIVIDEND and US DIVIDEND
100 INDEX excludes REIT's also which also could be excluded if you can find a
yield weighted fund that does so. Helps with taxes a bit of course.

10 year total returns before fees:
12.38% 500 Dividend Aristocrats (ticker NOBL)
10.2% 500 High Dividend Index (ticker SPYD)
12.97% 500 Low Vol High Yield Index (ticker SPHD)
11.08% US Dividend 100 (ticker SCHD)

VYM didn't beat the 500. A dividend tilt should want the higher yield.
age in bonds, buy-and-hold, 10 year business cycle

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Re: Total return vs dividends

Post by Phineas J. Whoopee » Thu Mar 29, 2018 3:25 pm

engineerartist wrote:
Thu Mar 29, 2018 1:31 pm
...
It seems to me that much of the mis-information propagated here regarding dividends is ignoring the difference between dividends produced by ETFs and MFs and dividends issued by individual stocks. While it is true that both are taxable, the dividends produced by ETFs and MFs immediately reduce the NAV of the fund, while the dividends produced by individual stocks do not automatically affect their market price.
...
I'm afraid your statement is factually incorrect.

First, the net asset value of an ETF or mutual fund is directly derived from the values of its underlying holdings. If their values did not go down the NAV would not go down.

Second, a share of stock plus $10 today, if today is the ex-dividend date, is worth $10 more than the share of stock without the $10 tomorrow.

When a company spends money by sending it to shareholders it no longer has that money, and therefore is worth less.

For what you say to be true would require investors not to notice the company's assets have gone down. They do notice that, at least the institutional ones who pay careful attention to such things.

It is true that the shares without the $10 also respond to market conditions the day after the ex-dividend date, which may sometimes obscure the change.

PJW

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Re: Total return vs dividends

Post by Stonebr » Thu Mar 29, 2018 3:34 pm

alex_686 wrote:
Thu Mar 29, 2018 8:55 am

OP, here is another active thread on Berkshire Hathaway. It is famous for having a high return and never paying dividends. It digs a bit more into the theory. Warren Buffet has suggested that selling shares is the correct way to generate cash-flow for his family who holds this stock.

viewtopic.php?f=10&t=245413
But Berkshire Hathaway, itself, has many holdings that produce gushers of cash, particularly the wholly owned subs. It is the cash flow from its holdings that Berkshire uses to make new acquisitions. The fact that BRK doesn't pay dividends doesn't mean that Buffett hates dividends. He hates paying them, but getting them? That's a different story.
"have more than thou showest, | speak less than thou knowest" -- The Fool in King Lear

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Re: Total return vs dividends

Post by alex_686 » Thu Mar 29, 2018 3:42 pm

Stonebr wrote:
Thu Mar 29, 2018 3:34 pm
He hates paying them, but getting them? That's a different story.
You should read his early stuff about accounting and the earnings pass through rule. I get the impression that he doesn't care about them. If the underlying business can make good use of its cash-flows for reinvestment purposes then it should. If it can't then it should disgorge in the most efficient manner available.

But I think the point remains. Warren Buffet invests if not for total return then at least for earnings and cash-flow. If you hold BRK then Buffet advocates "manufacturing your own dividend".
Former brokerage operations & mutual fund accountant. I hate risk, which is why I study and embrace it.

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Re: Total return vs dividends

Post by aburntoutcase » Thu Mar 29, 2018 3:49 pm

patrick013 wrote:
Thu Mar 29, 2018 3:09 pm
VYM didn't beat the 500. A dividend tilt should want the higher yield.
Most dividend yield oriented strategies are not going to beat the S&P 500 over the long-term. All of the stuff you are reading on outperformance is very sensitive to time period measured, just changing start and end date by a few years can often change performance results dramatically. . What matters in the real world is having a sound rationale for the strategy (including theoretical expectation it will continue to do well), avoiding unnecessary risk by being robust (anti-fragile for which diversification by sector and holdings is key) and keeping tax leakage and expenses low.

In the returns you have cited, you shouldn't really be counting NOBL as a high dividend yield strategy, it has a yield slightly below 2%. SPYD has an inception date of 10/21/2015 and SPHD has an inception date of 10/18/2012, their 10 year theoretical returns are meaningless because they don't account for trading costs/impact and expense ratio.

If you compare SPHD returns since inception with VYM/VHDYX they are essentially the same (VYM/VHDYX is immaterially higher). However VYM is far more diversified in sector exposure and also by number of holdings. If you take taxes into account VYM has outperformed SPHD by more than 60 bps a year (more since the above only includes federal income tax pr Morningstar).

The reality is that when you look at what is out there in high dividend yield strategies to invest in you quickly realize that total return investing is the superior bet. If someone wanted to get an extra 1% yield over the market VYM and SCHD are reasonable strategies that should keep underperformance relative to S&P 500 relatively contained and will keep sector and single stock exposure risk at acceptable levels, but any stretching for a 3.5% or 4.0% yield today is going to result in a horribly undiversified portfolio.

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galeno
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Re: Total return vs dividends

Post by galeno » Thu Mar 29, 2018 6:37 pm

If one can cover their spending needs with an AWR of 2%. The heirs will be estatic. Me? I"d rather spend more and enjoy my life.
MichaelRpdx wrote:
Thu Mar 29, 2018 2:09 pm
galeno wrote:
Wed Mar 28, 2018 10:37 pm
A portfolio composed of 50% Intermediate term US treasuries + 50% FTSE all world equities generates a portfolio yield of 2.35%. An AWR (annual withdrawal rate) of 2.35%.

Assuming a term of 30 years most people want an AWR of 3 to 4%.
However the OP wrote:
freeat56 wrote:If my portfolio will generate enough dividends and interest to fund my day-to-day living expenses without having to sell any shares...
The dividend stream fully covers the spending need. freeat56 doesn't need to calculate a SWR. They already have it.
USA-NRA. TER = 0.28%. Expected real CAGR = 2.00%. AWR = 4.00%.: Port: 50% World Stocks + 15% TIPS + 15% Corps + 15% US Treas + 5% CASH.

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Re: Total return vs dividends

Post by bertilak » Thu Mar 29, 2018 6:50 pm

freeat56 wrote:
Wed Mar 28, 2018 10:00 pm
I understand that in theory, focusing on total return and selling shares to generate cash is just as good as or perhaps better than relying on dividends for cash flow in retirement. However, I’m having a mental block on what this means in practice.

If my portfolio will generate enough dividends and interest to fund my day-to-day living expenses without having to sell any shares, isn’t it an easier way to generate cash than to have to sell securities periodically to generate the cash needed? My other question is that if my portfolio generates consistent dividends and interest income, I’ll never be forced to sell shares when the market is down. Having gone through several recessions during my working career, it was always a good feeling not to “have” to sell at any particular time. If one relies on total return and therefore sells shares to generate cash, how do you get comfortable with the idea that you’re sometimes selling shares at a loss?
I think you have a perfect understanding.
  • If your investments return enough in dividends to meet your needs, you might as well spend the dividends to cover expenses. There are NO tax consequences i doing so. You incur the tax hit when the dividends are paid, not when you spend them.
  • Any reasonably diversified portfolio WILL result in dividends. Don't mess up your diversification in a misguided attempt to avoid dividend paying assets in the name of "total return."
  • It does make sense to put high-dividend investments in a tax-advantaged account. This is asset location vs. asset allocation.
May neither drought nor rain nor blizzard disturb the joy juice in your gizzard. -- Squire Omar Barker (aka S.O.B.), the Cowboy Poet

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Re: Total return vs dividends

Post by patrick013 » Thu Mar 29, 2018 6:54 pm

aburntoutcase wrote:
Thu Mar 29, 2018 3:49 pm
patrick013 wrote:
Thu Mar 29, 2018 3:09 pm
VYM didn't beat the 500. A dividend tilt should want the higher yield.
Most dividend yield oriented strategies are not going to beat the S&P 500 over the longterm.
Well you have to read the studies. Some go back 50-60 years with the same
results. The figures I provided are from the S&P website which goes back
10 years for those indexes. So 2 plus 2 does = 4 for many decades including
the current business cycle. Read O'Shaughnessy, he's got the ball on dividends.
Or just buy general indexes. :)
age in bonds, buy-and-hold, 10 year business cycle

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Re: Total return vs dividends

Post by aburntoutcase » Fri Mar 30, 2018 1:22 pm

patrick013 wrote:
Thu Mar 29, 2018 6:54 pm
aburntoutcase wrote:
Thu Mar 29, 2018 3:49 pm
patrick013 wrote:
Thu Mar 29, 2018 3:09 pm
VYM didn't beat the 500. A dividend tilt should want the higher yield.
Most dividend yield oriented strategies are not going to beat the S&P 500 over the longterm.
Well you have to read the studies. Some go back 50-60 years with the same
results. The figures I provided are from the S&P website which goes back
10 years for those indexes. So 2 plus 2 does = 4 for many decades including
the current business cycle. Read O'Shaughnessy, he's got the ball on dividends.
Or just buy general indexes. :)
Like I told you there is a world of difference between reading up a backtest which has no trading impact costs, management fees and tax drag vs. real-world returns. All of the major dividend ETFs that have been around for a long time have underperformed S&P 500 slightly. Where there have been pockets of outperformance over shorter time periods they have been modest, nothing to write home about, especially when you factor in after-tax returns.

If you think O'Shaughnessy has cracked the code on dividend investing just check the performance of his "Enhanced Dividend Fund" which has underperformed its benchmark since inception by more than 3% annually. He also chose to to constrain dividend yield by looking at quality. Why do you think he chose to put those constraints in if dividend yield alone was such a great strategy? He wrote the book himself after all.

I am guessing you are that stage in your evolution as an investor where you are casting about for strategies that outperform while having some desirable attribute such as yield, lower risk etc. Even if strategies outperform in a backtest, once you have reached a high level of wealth those strategies can become undesirable due to lack of diversification etc. There is also no guarantee that the strategies will outperform out of sample, most don't. If they didn't then there would be an easy path to alpha generation by active managers and in real world it is very hard to find.

I am not a harsh critic of dividend yield oriented investors. I understand what they are trying to do and understand behavioral reasons supporting it. If one must go down that path I believe a dividend fund needs to be diversified by sector and have low turnover. The FTSE High Dividend Yield Index (VYM) and Dow Jones U.S. Dividend 100 Index (SCHD) are the best solutions around in making the trade-off between high dividend yield and diversification.

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Re: Total return vs dividends

Post by patrick013 » Fri Mar 30, 2018 2:03 pm

aburntoutcase wrote:
Fri Mar 30, 2018 1:22 pm
I am not a harsh critic of dividend yield oriented investors. I understand what they are trying to do and understand behavioral reasons supporting it. If one must go down that path I believe a dividend fund needs to be diversified by sector and have low turnover. The FTSE High Dividend Yield Index (VYM) and Dow Jones U.S. Dividend 100 Index (SCHD) are the best solutions around in making the trade-off between high dividend yield and diversification.
The O'S Enhanced Dividend Fund is a global fund. I don't know why he tries
on that one either.

VYM will never be in my account. My advise is choose a dividend index with
50-100 stocks that is LC and yield or equal weighted and payout ratios less than
one. I don't believe in behavioral finance, have nothing to gain from it, especially
when the math is on the wall nor this overdiversification you recommend. So I
agree with O'S and disagree with the behaviorists on this one. Happens all the
time.

No problem. When rates peak I want a 10% tilt with ticker SPHD for lack of a
better fund that complies with the specifications of O'S's research.

Have a good one. :beer
age in bonds, buy-and-hold, 10 year business cycle

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Re: Total return vs dividends

Post by Bfwolf » Fri Mar 30, 2018 3:10 pm

pkcrafter wrote:
Thu Mar 29, 2018 12:20 pm
freeat56 wrote:
My other question is that if my portfolio generates consistent dividends and interest income, I’ll never be forced to sell shares when the market is down.


Taking dividends is, in effect, selling. The big problem with taking dividends is you cannot control when to make withdrawals, so yes, you will be making withdrawals when the market is down. Dividends are withdrawal of total return.

Here is a chart demonstrating what the effect of taking dividends is doing. The result is the same, or worse, than simply making a withdraw when you need to. Reinvesting dividends buys more shares, which is good in a rising market. Taking dividends in a falling market is not good.

http://www.indexologyblog.com/wp-conten ... /500TR.jpg

Paul
OP, this response is the key to understanding your 2nd question. Spending dividends instead of reinvesting them IS selling part of your security. You just sell via getting your price/share reduced rather than having fewer shares. So if you feel bad about selling securities in a down market, you should fell just as bad about not reinvesting dividends in that down market. I am not saying you should feel guilty about either--you need money to live in retirement after all. I'm just saying they are equivalent.

Regarding your first question, as others have pointed out it absolutely makes sense to spend your dividends first before selling shares. You're paying taxes on the dividends whether you spend them or reinvest them, might as well spend them before you incur another taxable event (selling securities for a gain).

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Re: Total return vs dividends

Post by aburntoutcase » Fri Mar 30, 2018 3:41 pm

patrick013 wrote:
Fri Mar 30, 2018 2:03 pm
No problem. When rates peak I want a 10% tilt with ticker SPHD for lack of a
better fund that complies with the specifications of O'S's research.
Why do you think the Great Man Himself did not use straight dividend yield as a metric for his dividend fund since he is intimately familiar with the data, far more than you are?

They won't ring a bell when rates hit a peak BTW.

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Re: Total return vs dividends

Post by patrick013 » Fri Mar 30, 2018 4:25 pm

aburntoutcase wrote:
Fri Mar 30, 2018 3:41 pm
patrick013 wrote:
Fri Mar 30, 2018 2:03 pm
No problem. When rates peak I want a 10% tilt with ticker SPHD for lack of a
better fund that complies with the specifications of O'S's research.
Why do you think the Great Man Himself did not use straight dividend yield as a metric for his dividend fund since he is intimately familiar with the data, far more than you are?

They won't ring a bell when rates hit a peak BTW.
Why does anybody do anything ? His famous studies did not venture
to foreign securities. His ER's are too high anyway. Client request I
suppose.

Dividend yield, payout ratio, price/sales ratio etc. gets his most concern for
his domestic study. I discern them. If he only selects 50 stocks and
the last 2 had yield of 3% he would pick the one with the lowest price/sales
ratio to make a 50 stock index. https://www.forbes.com/sites/investor/2 ... 9434c843d0

Actually a Morningstar study shows small caps better than dividend selections
after tax so information is information.

edit: your opinion of ticker SDOG
age in bonds, buy-and-hold, 10 year business cycle

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Re: Total return vs dividends

Post by aburntoutcase » Fri Mar 30, 2018 6:08 pm

patrick013 wrote:
Fri Mar 30, 2018 4:25 pm
edit: your opinion of ticker SDOG
I think anyone focused on maximizing total returns would be unwise to follow any strategy that blindly looks at highest yielding stocks, even though this mitigates it somewhat by limiting it to Top 5 in each sector. For dividend strategies I think it is best to eliminate the very highest yielders as those are generally distressed stocks with poor growth prospects. If you like them for the value aspect then you are better focusing on P/E which has better returns as factor. Even if they recover they are risky, so can't just look at returns in isolation.

My preference would be for SCHD or VYM although I have never had a position in either of them. I just like to look from time to time on what is out there with dividend yield oriented strategies for the future when I retire. Generally I think the total return camp has this argument locked up because even going to a 3% div yield doesn't allow you to eliminate selling stock unless you have a large portfolio 33x your pre-tax expenses. Besides I would never go to 100% stock in retirement unless I am super rich, so at end of day need to take a total return approach to investing.

With recent increase in bond yields some of the interest in my part on dividend oriented strategies has declined anyway. For some subset of investors who intend to retire with 90% or 100% stock allocation I guess dividend yield oriented strategies could make some sense for behavioral reasons. But ease of implementation and diversification would be paramount, hence my observation that you can't get much better than VYM or SCHD right now.

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Re: Total return vs dividends

Post by Toons » Fri Mar 30, 2018 6:31 pm

"If my portfolio will generate enough dividends and interest to fund my day-to-day living expenses without having to sell any shares, isn’t it an easier way to generate cash than to have to sell securities periodically to generate the cash needed"

I speak for myself and the spouse.
That is exactly what we do,,in taxable account.
Take Dividends,capital gains etc in cash.(Mcdonalds,Walmart,Praxiar,,Coke,,Index funds..managed funds..etc.
I never think about selling shares.
Keeps it simple for us. :mrgreen:
"One does not accumulate but eliminate. It is not daily increase but daily decrease. The height of cultivation always runs to simplicity" –Bruce Lee

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Re: Total return vs dividends

Post by Longtermgrowth » Sat Mar 31, 2018 2:50 am

Reading back through this, no one asked the OP what their current or proposed portfolio is!

I automatically assumed the OP was looking at individual stocks, or high dividend stock funds along with possibly some risky bond funds.
Maybe the OP is holding a Boglehead three fund portfolio and taking the dividends from that?

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Re: Total return vs dividends

Post by dbr » Sat Mar 31, 2018 8:15 am

Longtermgrowth wrote:
Sat Mar 31, 2018 2:50 am
Reading back through this, no one asked the OP what their current or proposed portfolio is!

I automatically assumed the OP was looking at individual stocks, or high dividend stock funds along with possibly some risky bond funds.
Maybe the OP is holding a Boglehead three fund portfolio and taking the dividends from that?
The OP is focused on the idea that "not selling shares" is of some special benefit, presumably that of somehow being "safe." That idea is not even wrong.

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Re: Total return vs dividends

Post by MathIsMyWayr » Sat Mar 31, 2018 10:06 am

I view a portfolio as a water tank the level of which goes up or down depending on the market. The tank has two taps to withdraw funds from:
  • 1) dividend
    2) selling shares
Tap 1 is controlled by the companies and you may redirected it to the tank if you choose. On the other hand, you may open or close tap 2 at will to meet your needs. Either way, both taps are leaky to taxes. Now the question is what kind of tank is best to acculumate and grow(?) water over the years. Generally, the less the constraint on it, the better. Any time you place a constraint, the solution may stray from the optimal one without constraint. In mathematics and phyics, it is called the variational principle. Common understanding is that a well diversified portfolio such as total stock market or S&P 500 is most productive and least risky in the long run. If tap 1 of such a portfolio is not large enough for your needs, you have two choices. You may open tap 2 or replace it with another portfolio with larger tap 1 (dividend). If you take the second choice, then your portfolio may be no longer optimal.

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Re: Total return vs dividends

Post by dbr » Sat Mar 31, 2018 10:11 am

MathIsMyWayr wrote:
Sat Mar 31, 2018 10:06 am
I view a portfolio as a water tank the level of which goes up or down depending on the market. The tank has two taps to withdraw funds from:
  • 1) dividend
    2) selling shares
Tap 1 is controlled by the companies and you may redirected it to the tank if you choose. On the other hand, you may open or close tap 2 at will to meet your needs. Either way, both taps are leaky to taxes. Now the question is what kind of tank is best to acculumate and grow(?) water over the years. Generally, the less the constraint on it, the better. Any time you place a constraint, the solution may stray from the optimal one without constraint. In mathematics and phyics, it is called the variational principle. Common understanding is that a well diversified portfolio such as total stock market or S&P 500 is most productive and least risky in the long run. If tap 1 of such a portfolio is not large enough for your needs, you have two choices. You may open tap 2 or replace it with another portfolio with larger tap 1 (dividend). If you take the second choice, then your portfolio may be no longer optimal.
For those with a mathematics and physics background that is a pretty good explanation of the concept.

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Re: Total return vs dividends

Post by Bfwolf » Sat Mar 31, 2018 2:15 pm

MathIsMyWayr wrote:
Sat Mar 31, 2018 10:06 am
I view a portfolio as a water tank the level of which goes up or down depending on the market. The tank has two taps to withdraw funds from:
  • 1) dividend
    2) selling shares
Tap 1 is controlled by the companies and you may redirected it to the tank if you choose. On the other hand, you may open or close tap 2 at will to meet your needs. Either way, both taps are leaky to taxes. Now the question is what kind of tank is best to acculumate and grow(?) water over the years. Generally, the less the constraint on it, the better. Any time you place a constraint, the solution may stray from the optimal one without constraint. In mathematics and phyics, it is called the variational principle. Common understanding is that a well diversified portfolio such as total stock market or S&P 500 is most productive and least risky in the long run. If tap 1 of such a portfolio is not large enough for your needs, you have two choices. You may open tap 2 or replace it with another portfolio with larger tap 1 (dividend). If you take the second choice, then your portfolio may be no longer optimal.
Good analogy.

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