There are basically two types of investing when it comes to stocks.
Growth Stocks
This is where you buy a stock and then plan on selling it for more than you paid for it. Unfortunately this is what most people think investing in the stock market is all about and why they think it’s so risky. It’s extremely hard to find stocks that are selling for less than they are worth unless you have some inside information that everyone else watching the stock market doesn’t have. If you did have inside information and used it to profit from a stock trade, this would be “insider trading” and you could go to jail for it. (Martha Stewart anyone?)
Very few people build any lasting wealth by flipping penny stocks or trying to guess which future events will benefit which companies. Constantly buying and selling stocks also generates very high trading commissions and tax consequences which can eat up most of your profit. This is more like gambling than investing and just like going to the casino, although some people win, the majority of the people aren’t lucky.
Income Stocks
When a company has been around for a very long time and its fast growth phase is behind it, it will then begin sharing it’s profits with shareholders in the form of quarterly checks called dividends. Over the years as the company slowly grows, it will also grow the amount it pays out in dividends. If you live in Canada and receive dividends from a Canadian company, this income is taxed very favourably. Since people generally buy and hold income stocks and collect the dividends for years, there are far less trading commissions and far fewer taxes generated.
To me this is real investing. You become part owner of a large Canadian company that employes thousands of people and contributes lots of money to our economy in the form of taxes. In return the value of the shares you own grows over time and every 3 months you get a dividend check which also grows over time. There is nothing unethical about receiving profits from a company you own.
Another good thing about income investing is that the number of companies that have a long history of paying increasing dividends is pretty small. These companies by nature tend to be quite stable too, so the risk of picking the wrong one is minimal. You could open a TFSA and fill it up with a REIT ETF, an Index ETF and maybe a few individual income stocks and I think you would do quite well.
Examples
If you want to see an example of how to build a portfolio using ETF’s, REIT’s and Index Funds I suggest you check out the Couch Potato Portfolios made popular by MoneySense magazine.
I buy most of my Income Stocks straight from the company through their DRIP plans. Let’s look at the top 10 most popular income stocks from dripinvesting.org. I will list their one year change % and dividend yield.
- Bank of Nova Scotia, one year change, up 11.52% plus 3.96% dividend yield.
- Bank of Montreal, one year change, up 7.24% plus 4.67% dividend yield.
- Enbridge, one year change, up 13.91% plus 2.92% dividend yield.
- TransCanada Pipeline, one year change, up 7.58% plus 3.72% dividend yield.
- Johnson & Johnson, one year change, up 9.40% plus 3.41% dividend yield.
- Fortis Inc., one year change, up 5.12% plus 3.59% dividend yield.
- Rio Can REIT, one year change, up 3.72% plus 5.05% dividend yield.
- Bell Canada, one year change, up 1.60% plus 5.26% dividend yield.
- Pepsico, one year change, up 4.89% plus 3.10% dividend yield.
- TransAlta, one year change, down 27.28%, dividend yield was 7.50%.
So you can see by looking at this list how the steady dividend income adds to the growth in the stock price to create your total return. In the case of TransAlta, you can see how the dividend income of 7.50% would reduce a loss of 27.28% to a loss of 19.78%.
Full disclosure: I own shares in Bank of Nova Scotia, Fortis Inc. and Bell Canada.
