How A Beginner Should Start Investing With The Right Mindset

Although there are a couple of exceptions, there are very few things that send people to this site quite like searching Google for advice on how to start the beginning stages of dividend investing. It’s obviously a question I find complex enough to have written 536 posts here at The Conservative Income Investor and 536 over at Seeking Alpha (I wanted to mention that because I am currently at that magic point of equilibrium, like when Stan Musial finished his career with 1,816 hits at home and 1,816 on the road) so one post on the topic will be incomplete. But I can talk about the state of the mind that is important to establish with dividend investing and building wealth.

Henry Ford once said—if you can measure it, you can manage it. Too often, when people get started investing, they choose the wrong metric by which to judge their success. They choose to use net worth as their guide, and this seems to be an invitation for both immediate and perpetual frustration. Prices of stocks fluctuate every day, can decline 30% or more in a given year or two per generation, and can often create conditions in which you add investment dollars without seeing immediate improvement and grow frustrated that you are actively working towards something but end up seeing no progress.

I suggest using a different measurement of success—calculate how much profits everything you buy makes, and then separately track your dividends. This way, you are measuring yourself by the ownership assets that you accumulate rather than the temporary value that other people place on those assets. If you are a buy-and-hold investor, this approach works out even better because the dividends will be the tangible benefits of investing that you will receive to improve your standard of living in life if you adopt the rarely/never sell philosophy.

Imagine, for a moment, that Pepsi is one of the companies that you choose to be the cornerstone of your portfolio. You have $250 available to buy soda and snack ownership positions in each month, and decided that Pepsi caught your eye in 2007 given its track record of dividend growth and 13.5% annual returns. If you bought $250 of Pepsi each month in 2007, I would like your thought process to be, “I am paying $68 per share, and each month gets me 3.67 shares that represent $12.25 in profits overall and will immediately distribute to me $5.72 over the course of the year.” Each month, I want you to think you are buying over $12 in profit and $5 in dividends.

Why is this useful? Because the following two years saw the price decline to a low of $43.80, and an investor that measures his success by changes in net worth would have thought that he was going broke fast and would find himself saying fashionable Pollyanish phrases like, “The stock market is nothing but one large casino. It is rigged against me.” But someone that thinks in terms of profits and dividends would see that the business was remaining sound while the price of the stock got cheaper, and would recognize the opportunity to make one of the best buy decisions of the generation.

That $250 invested around $45 during the financial crisis—at that precise moment in time—represented $3.77 in profits and $1.75 in dividends. Because the demand for soft drinks, snacks, and breakfast cereals remains consistent in both good and bad economic conditions, Pepsi was one of those companies that was actually growing while its stock price was plummeting.

Each month, you would have been picking up 5.20 shares that represent $19.60 in profit and $9.10 in dividends. This is the realization that makes it easy to be a value investor, transitioning away from someone that sweats net worth. With almost anything else, people enjoy getting discounts—the same shirt that costs $45 instead of the $60 last month would make you more inclined to buy, yet people abandon this logic when it comes to investing. That is why I think tracking profits and dividends is a strong mechanism to adopt the right mindset towards investing—who wouldn’t rather buy $19.60 in profit and $9.10 in dividends each month rather than $12.25 in profits and $5.72 in dividends? It’s a great way to recognize the fact that market downturns are when gets made—it’s better to buy Chevron at $103 rather than $135—but many people fail to adopt this style of thinking.

Someone that kept this up from 2007 through now would have 415 shares of Pepsi. The investment would represent $1,971 in profits and $1,087 in annual dividends.  Your quarterly dividend checks would be around $271, and if you choose to reinvest, it is like you have a little helper that lets you make sixteen months of Pepsi investments per year instead of just twelve. It is flirting with that point where investment growth becomes the self-propelling force—in a few years, the mere act of dividend reinvestment would contribute more to the growing Pepsi fund than the regular monthly additions. When you focus on the ownership that you are acquiring, rather than getting caught up in the price of the liquidation of that ownership position, you will be able to avoid being one of those people that sells at a low because you have reconfigured your programming to recognize it as a buying opportunity.

This will not work for everyone—this is a subset of people that can’t help themselves, and will tie their emotions to market prices even if they know better. If this is you, the best thing to do is focus on private ownership. If you buy a house for $100,000 that gives you $800 per month in rent, you are not going to be affected by changes in Zillow estimates of the property value. The asset is tangible, and there is no formal daily quotation. Both styles can lead to great lives—someone deathly scared of stocks that spends twenty years buying eight properties that give him $10,000 per month is total rents is perfectly capable of spending each day of his life doing what he damn well pleases—proving that understanding yourself and adopting a style that proves compatible leads to much better long-term results than pretending to be something you’re not and then paying for it at the moment you sell at a low. Avoiding selling low is the most important rule of investing, and anything you can do to fight that tendency will make you a better investor.


Originally posted 2015-03-08 17:21:19.

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