25. What is Income Investing Video Lecture | Become an Expert: Value Investing - Business Basics

welcome to course to unit 5 lesson 1
income investing in this lesson we're
going to learn about what income
investing is and we're also going to
learn techniques for picking stocks that
are income investing stocks so let's get
started if you like a lot of people
you're probably wondering how you might
pay for your retirement someday so
income investing is going to be
something that can really help you out
as you plan for that so how do you plan
on paying for your retirement let's
imagine that you're 65 years old and
you're looking to retire and that you
have a half a million dollars in savings
right now at the age of 65 if you spent
$50,000 a year of that savings and you
also invested that half a million
dollars at 7% a year you'd be broke by
the age of 80 and this is something that
I don't think a lot of people really
consider and think about now this would
be obviously assuming that this person
wouldn't have any type of retirement
benefits or anything like that but I
throw that figure out there to kind of
give you an idea of how much money it
really takes in order to retire and this
would also be assuming that this person
would own a house would be completely
paid for and I'd have no debt
if you throw those variables in that
would be even depleted faster than than
just 15 years so this is something that
you have to plan for this is something
that you have to think about because if
you don't do it properly you're going to
be in a situation that when you're older
you're not going to have the funds and
the resource to continue living the
lifestyle that you want to live so
that's why I'm introducing income
investing so what is it ok income
investing is purchasing stable stocks
and bonds that pay dividends and coupons
if you own enough of these stocks and
bonds and you acquire them through the
years the dividends and coupons will
then provide the income for you into
your retirement and if that income is
enough to meet your spending
requirements than the equity and par
value of those investments will remain
or even grow as time marches on so to
give an example of that let's say we got
Jack here and let's say that Jack maxed
out his IRA from the age from the time
he was 22 years old until the time he
was 65 and if he was making that $5,000
contribution
from that time duration that I just
mentioned if his money grew at seven
percent you two have almost about a
million dollars so if that's the
situation and let's assume that Jack was
buying companies that were paying
dividends paying those three percent
dividends and purchasing bonds that were
paying decent returns like five or six
percent if he had been buying these
throughout the duration of his life up
till the age of 65
those dividend payments wouldn't be
three percent they would continue to
grow with the company and they might
turn into 5% or 6% based off of that
initial price that he purchased the
stock for so let's assume that his
average over that duration is five
percent so if Jack has a million dollar
saved when he's 65 and he retires those
stocks and bonds that he would have been
purchasing throughout that duration will
be paying him $50,000 a year just an
income alone based off of the dividends
and coupons that he had received off of
that million dollars so that's what a
five percent return on dividends and
coupons will bring you with a million
dollars so let's assume that if Jack
adheres to the rule where a lot of
people will recommend that if you're
thirty years old on your birth
certificate that you should have 30%
invested in bonds and 70% in stocks I'm
not going to go as far as to say that
but we're just going to use this as an
example and say that jack adheres to
that advice and since he's 65 years old
let's just say that he has about 60
percent of his money in bonds and 40
percent in stocks so that 40% equates to
$400,000 for his stocks and if that's
the case those stocks are going to
continue to grow just as long as he
picked good stable companies that are
growing their equity and also growing
their earnings that $400,000 is going to
continue to grow as it continues to pay
him the dividend payments as well so his
$50,000 a year that he's receiving in
totality for all of his investments
might turn into 55 K my turn at the 60 K
as
as dividend payments continue to
increase on that $400,000 of stocks and
equities so how can you invest in a
company that provides those benefits now
and into your retirement and the answer
is that you have to really adhere to all
the advice that I mentioned in the
course to unit 3 lessons where you have
to invest in a stable company and you
have to also invest in a company that
pays dividends now I didn't really
describe why you want to pick something
that pays dividends back then but this
is the reason why is because your income
investing so let me give an example of
companies that are paying the decent
dividends but had a lot of debt and how
those dividends when we see the thing
that you've got to think about is you're
going to think about as if you're the
owner of this at age 65 so the last
thing you want to do is to own a company
that has a dividend and it might be
paying a 30 cent dividend but then it
goes into a recession and the company
drops that dividend down to let's say 10
cents so if you had a million dollars
and you're receiving that 30 that 30
cent dividend that might equate to let's
just say $30,000 whenever you add up all
the shares and if that company would
then drop its dividend you might only
receive $10,000 which would be a $20,000
cut because of the market conditions
that's something that you want to avoid
whenever you're old and you're retired
you don't want to be dealing with
something like that you want to be
continuing to receive those dividend
payments so I'm going to show you
companies that drop their dividend
payments during the 2008 recession and
then I'm going to show you companies
that just sustain their dividend
payments during the 2008 recession and
what I'm going to show you is that the
companies that drop their dividends
where the companies that had a lot of
debt the companies that sustain their
dividend payments were the same
companies that did not carry a lot of
debt so right here I have a General
Electric listed on the top and JP Morgan
listed on the bottom and the graph that
you see is just the Dow Jones Industrial
Average just to kind of show you how the
market dropped significantly there in
2008 and into 2009 so during that time
if you see that red line that is right
where GE and JP Morgan which is the two
companies here
General Electric and JPMorgan dropped
their dividend payments right there in
about the middle of 2009 and they went
from paying the 30g he went from paying
a 31 cent dividend down to a 10 cent
dividend around that time now if you
look over to the right of GE you can see
that I have the debt to equity listed on
that as a 5.0 and that is extremely hot
if you remember back to the lessons in
unit 3 I had mentioned that you're
wanting to find companies with the debt
to equity below 0.5 so for a company to
be listed at a 5.0 that's extremely high
that means that they have five dollars
of debt for every $1 of equity in the
business and that's that's a lot of debt
so when GE had to do during those those
troubling times is they had to cut that
dividend which was a wise decision for
the company they shouldn't be putting
more money in their owners pockets
whenever they're going through difficult
times and have a lot of debt so they
made the right decision
but at the same time you don't want to
be the owner of something like that at
age 65 when you're relying on that money
is income so that's why I highlight this
and if you look at JPMorgan they
actually even took a steeper cut they
went from 38 cents down the 5 cents and
they had actually a lower debt to equity
ratio than GE but it was a financial
company and that was a result of the
financial crisis so something to look at
look at that comparison and how the debt
to equity is shown you how there's a
company that's probably going to be
cutting its dividend real fast if
they're carrying a lot of debt so let's
go ahead and look at two companies that
didn't drop their their dividend payment
during the 2008 recession
I left the red line up there just to
show you where the two previous
companies were at but those don't have
anything to do with these companies so
Johnson & Johnson during the 2008-2009
crash they actually increase their
dividend payment they went from paying a
46 cent dividend up to a forty nine cent
dividend during that time period now if
you look at their debt to equity it was
a point two eight which is below the 0.5
that we're looking for on on investments
so there's an example of a company that
held their dividend
and if you were 65 years old and you
were relying on that income to pay the
bills and to live your lifestyle there's
a company that would have continued to
pay you your money and that was all a
result of the fact that they didn't have
a lot of debt and when we look at the
company below
that's Intel that's the ticker for Intel
and you can see that Intel's dividend
actually remained exactly the same at 14
cents as what they were paying before
the recession and after the recession
they continued to pay the same thing if
you look at their debt to equity their
debt to equity was a point zero three
which is pretty much non-existent that
company pretty much had no debt at all
so there's an example of companies two
companies that did not drop their their
dividend payment during a really bad
recession and it was all a result of the
fact that they were in a very good
conservative situation where they didn't
have a lot of debt and they were growing
their equity consistently so those are
the companies you're looking for and
those are the companies you want to buy
which we already learned back in unit 3
from this course but there's there's
another example of why you want to do
that is because if your income investing
and you're going to be relying on that
income went into your retirement you can
rest assure that you have a much better
chance of collecting those dividend
payments in the company not dropping
them okay so write this down
always always always purchase assets
that will increase your cash flow next
month okay if you stick to that rule
you're going to see a compounding effect
that you're not going to find anywhere
else okay so let me give you two
examples let's say I went out and I
purchased a hundred shares of the Shell
Oil Company okay
you know what the result of that action
would be the result would be that I
would have twenty dollars and sixty six
cents more next month than I have this
month and that's a result of those
dividend payments at it that I would be
receiving from the Shell Oil Company so
now here's another example let's say I
went out and bought a thousand dollar
Parr bond at a 5% coupon the result of
that decision means I'm going to have
another four dollars and sixteen cents
next month in order to invest so
whenever I'm investing in these
companies that are increasing my cash
flow it has a compounding effect so
let's assume I typically have a thousand
dollars to invest each
every single month I'm investing a
thousand dollars if I would have chose
that first course of action that means
next month I'm going to have 1028 . 66
cents to invest and then the following
month after that I'm going to have even
more because I keep following that rule
where I'm investing in companies that
are going to continue to increase my
cash flow each month and that's really
the essence of income investing using
this approach will provide increasing
liquidity every month so you can invest
in the most undervalued security so
let's say you were purchasing stocks
that weren't paying a dividend you were
just buying companies that were that you
were counting on the market price to
increase okay let's say the market then
goes through a recession and you're
still holding that company that
company's not providing any type of cash
or any type of liquidity for you to
invest in that opportunity because the
market slow now if you're buying
consistently buying companies that pay
dividends you're receiving those
dividend payments so then you can now
take that money take that cash and plug
it into the now whatever undervalued
asset is out there whether it's stocks
bonds preferred shares or whatever so
income investing provides you liquidity
to constantly be plugging that cash into
the most undervalued asset so here's our
conclusion on income investing income
investing is going to provide you
quarterly payments or semiannual
payments if you're doing bonds that are
going to give you a cash flow and a
source of income whenever you go into
retirement so if you start buying them
now those dividend payments are going to
do nothing but increase if you're buying
decent companies and you're going to
have even a higher yield on your money
whenever you go to retire and here's a
here's a rule of thumb that I like to
use I like to find companies that pay
about one-third of their earnings
through dividends and the other
two-thirds go back into the book value
of the business that 2/3 going back into
the business into the book value I don't
have to pay taxes on that so that's why
I prefer kind of this this ratio but
that 1/3 then affords me that
opportunity to continue to vest that
cash flow into undervalued assets so
that's the ratio I personally use and
that's what I'm kind of looking forward
now I'm not going to discount
company that might have a little bit
less or a little bit more if they if all
the numbers look really well but that's
just kind of a little bit of a rule of
thumb that I use and you can adopt that
as well if you like it so that concludes
course to unified lesson one on income
investing hopefully you've learned what
income investing is and you've learned a
couple ways that you can employ the
technique and I'll see you guys in the
next lesson