Tuesday, January 23, 2018

Home Run Number 10

I use the term home run to describe any position in DivGro that has crossed the 100% mark in total return.

Before becoming a dividend growth investor, I sold half of my shares when a position doubled. I justified the action by saying that now I'm playing with "house" money.

I no longer think that way. Most of my positions are income-generating dividend growth stocks and cutting my income in half just because the position has doubled, seems silly. Now I'm more than happy to hold my home runs and to continue collecting their growing dividends.

Today, I'm happy to announce my 10th home run in DivGro!

Here is the list of my previous home runs:
  • Home run #1: General Dynamics (GD) — up 228% (47% annualized)
  • Home run #2: Nippon Telegraph & Telephone (NTT) — closed for 125% gain (37% annualized)
  • Home run #3: Digital Realty Trust (DLR) — closed for 102% gain (44% annualized)
  • Home run #4: Altria Group (MO) — up 128% (32% annualized)
  • Home run #5: Reynolds American (RAI) — closed for 180% gain (53% annualized)
  • Home run #6: Main Street Capital (MAIN) — up 60% (25% annualized)
  • Home run #7: Microsoft (MSFT) — up 226% (49% annualized)
  • Home run #8: UnitedHealth Group (UNH) — up 196% (54% annualized)
  • Home run #9: Northrop Grumman (NOC) — up 113% (42% annualized)
Once a position reaches home run status, it retains that status, even if I buy more shares and the total return falls below 100% on the adjusted cost basis. That's the reason why MAIN is on the list even though it shows a total return of "only" 60%. 

Home Run #10


My tenth home run stock is McDonald's (MCD), a Consumer Discretionary sector stock I bought in September 2014. MCD a Dividend Champion with a streak of 42 years of dividend increases. The dividend is growing at a reasonable rate, with a 5-year DGR (dividend growth rate) of 5.9% and a 10-year DGR of 9.8%. While this indicates a slowdown in dividend growth, MCD's latest dividend increase of 7.45% was quite welcome!

I bought 27 shares of MCD on 22 September 2014 at $93.97 per share and an initial Yield on Cost (YoC) of 3.62%. MCD's new 52-week high is $177.75, not yet doubling my cost basis. However, I've collected $317 in dividends from MCD, which pushes the total return to 101% (or 30% annualized).

Here is a five-year price chart of MCD showing my buy price:
Initially, MCD's stock price increased slowly, but since about November 2016, the increase has been spectacular!

Fair Value Estimates


My latest fair value estimate of MCD is $140. Morningstar's fair value estimate is $170, while S&P Capital IQ calculates a fair value of $128. According to Tipranks, based on 16 ranked analysts offering 12-month price targets for MCD, the average price target is $190. Finally, based on 5 different valuation models, Finbox.io estimates a fair value of $152. 

If we average these valuations, MCD's FV is $156, which means NOC is trading at a premium of about 13%.

One contributor to Seeking Alpha has MCD as one of five picks in his recession-proof strategy for 2018. Another expects sustained momentum in 2018 and has a buy rating on the stock, but one analyst questions MCD's ability to grow margins sufficiently to warrant its current valuation. There is even a gloomy outlook from one author who has shorted MCD. He points out that McDonald's debt has doubled in three years, that revenue has declined, and that net income has fallen if the China/HK "one-shot" sale is ignored.

Given these wildly differing opinions, I'll need to carefully consider my position in due course.

Conclusion


Home run stocks present an interesting conundrum. They've performed spectacularly, but what should you do with them? Do you sell and capture the gains, or do you hold and hope for more gains?

As a dividend growth investor, I prefer to hold my winning positions unless they get grossly overvalued. One way to determine if a stock is overvalued is to use Yield Channel Charts, which assess market valuation relative to a stock's historical yield patterns.

I'm planning to create yield channel charts for all DivGro's dividend growth stocks, and I'll probably start with my home run stocks (including MCD). Yield channels can be seen as safety zones for stock prices, so evaluating the yield channels of my home run stocks will help me to decide what to do with them.

Thanks for reading! Do you sell your home run stocks to capture gains, or do you just sit tight and continue to collect dividends? Please let me know in the comments section...

8 comments :

  1. Congrats on the MCD homerun. Unfortunately I sold some of my shares a few years back because it was by far the largest position in my portfolio and I was hurting for some investment capital. Obviously that was a mistake; however, I can't complain about the results of the shares that I still hold. My cost basis isn't much lower than yours so I'm sitting on a nice 100% gain as well. All the best.

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    1. Hi, Passive IncomePursuit -- good to hear from you! MCD's price action since November 2016 has been surprising and spectacular! Congratulations on your home run for the shares you kept!

      As for calling your sale a mistake, I wouldn't do that unless you also account for the returns of the reinvested capital. Furthermore, even if those returns do not match what MCD would have returned, your overall portfolio diversification probably is better as a result. That would be beneficial when the bears take over!

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  2. Congrats on another home run stock, FerdiS! You've entered the double digits with respect to home runs... sweet. If I came to the conclusion that MCD is grossly overvalued, then I'd probably sell some, but not all. Maybe enough to get my investment back. I'd have the option to invest in something more attractively valued, or should MCD's price drop, the option to buy the shares back at a lower price. In the past couple of years, I bought CMI and saw it run up about 50%, then sold thinking it was overvalued. Of course, it continued to rise, so not the best move. In retrospect, I should have only trimmed the position. I at least would have captured the move higher with some of the shares. On the other hand, I bought O and saw it run up quite a bit. Eventually I did a partial sale, thinking it was overvalued. In this case, the stock did top out there, and then declined. I was able to repurchase the shares several months later after a 20% drop. It's not an easy decision, but considering it's already a home run, it's a nice problem to have. Best of luck in whatever you decide to do.

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    1. Thanks, Engineering Dividends -- I appreciate your comment!

      I'm leaning towards not selling. My position is smallish (27 shares), so selling just a portion is not that attractive. The lessons you share about CMI and O show that getting it right is hard.

      There's a cool quote that probably applies here: "Don't just do something, sit there!" I should probably just sit tight and see where my MCD shares would take me. Of course, I'm still going to look carefully at MCD using my yield chart analysis, but I see that as part of "sitting there".

      Take care and happy investing!

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  3. Congrats on all the home runs! I say let the winners run unless you can use the after tax proceeds to buy something better. With taxes to consider, I've learned to keep letting them run. Visa does nothing but go up and I keep adding. These are good problems to have though! Keep up the good work. You are certainly picking a lot of winners.

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    1. Thanks, All About Interest -- it is good to hear from you again! Happy 2018!

      Generally, I let my winners run. I sold NTT and RAI for specific reasons, and DLR to prepare DivGro for options trading. I have some regret about DLR, 'cause I've been unable to get back in at decent valuations. Your point about considering taxes is important, too. That's one of the great benefits of long-term dividend growth investing... lower tax rates on dividend income and you don't pay capital gains taxes unless you sell!

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  4. Replies
    1. Thanks, FiscalVoyage -- I appreciate your comment!

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