This is shared by Steven Hogan (Twitter @stevehlaw), who has learned a few things about investing that he wanted to share. This story is part of our Reader Stories series. Some stories contain general advice; others are examples of how a GRS reader achieved financial success or failure. These stories feature folks with all levels of financial maturity and income. Want submit your own reader story? Here’s how.
The back story
When I was 18, a family member set me up with an IRA with $100 in it. That gift made me feel like I was one up on everyone else my age, planning solidly for the future and positioned to make huge gains over time by following the â€œbuy and holdâ€ idea. I firmly believed I would be one of those long-time investors looking at a huge nest egg when I got older.
The problem was that the mutual fund that comprised my IRA â€“ which I sporadically put money into â€“ charged enormous fees that ate up most of the investment gains each year. Over the next 10 years or so, the cash value of my retirement fund barely budged above the amount of money I directly invested in it.
When I finally realized how bad the fees were, I moved my account into a Total Stock Index with Vanguard. I felt better about life when I saw that the fees charged by Vanguard were minuscule compared with what I was paying before.
The big change
All of that was well and good until Mark Cuban scared the hell out of me. I discovered his blog (blogmaverick.com) earlier this year and ended up reading everything in the archives.
Cuban’s take on stocks was chilling: buying a stock and expecting it to â€œincrease in valueâ€ over time was the same as investing in baseball cards. The only way a â€œstockâ€ could be worth more in 10 years is if someone else is willing to pay you more down the road. What’s more, executives at publicly traded companies have every incentive to dilute the value of your â€œshareâ€ of stock by issuing options to themselves as part of their compensation packages.
The stock market is for suckers
Cuban said it best in his 2006 blog post The Stock Market Is for Suckers:
I’ve said it before, a stock that doesn’t pay dividends is valued like a baseball card. Just whatever you can sell it for. The concept that you own â€œyour shareâ€ of the company is a joke. You are completely at the whim of the CEO and board who will dilute you on a daily basis with stock options, then try to buy back stock to cover it up and push up the price, rewarding the shareholders who get out, rather than those that continue to hold the shares. Meaning you.
That shook my â€œbuy and holdâ€ philosophy to the core. If I couldn’t bank on stocks appreciating in value â€“ like magic â€“ at 5 or 6 percent a year, what could I do as a small investor to grow any amount of capital at all?
Dividends to the rescue
Mulling over Cuban’s insight led me to a drastic change in my investment strategy. Instead of banking on stocks appreciating in value through a â€œbuy and holdâ€ philosophy, I would switch to a focus on cash dividends that would result in real money â€“ each quarter â€“ down the line when I started taking disbursements from my IRA at retirement age.
While the Vanguard account I had did have a quarterly dividend, it was not that high in proportion to the cost per share of the account.
I then went hunting for a high-dividend Vanguard fund, and found a winner in the High Dividend Yield fund. Not only was this fund paying a dividend higher than my fund, but the price per share was almost half that of the Total Stock Index fund that I was invested in.
As a result, I rolled over my funds into the High Dividend Yield fund and realized a total dividend that was almost double what I had earned in my Total Stock Index fund. The higher cash value of the dividend, coupled with the lower price per share, meant that reinvesting the dividend bought almost three times as many shares of the fund as I previously could.
Cuban may be right that the stock market is for suckers if you treat it like a set of baseball cards. However, if you focus on dividends you may still be able to build up an investment fund that will provide a quarterly dividend worth real money in the future.