Anyone who has been following My Story will know that my investment strategy comprises 60% growth stocks and 40% value/dividend stocks. Recently, I made a subtle but important change to this strategy. In this today’s edition, I will be discussing this change, the logic behind it and how it will impact my portfolio. This change was made in early February so has been in no way influenced by any of the market madness this week.
I initiated my current portfolio in June 2020 and as such, the financial year 2020 was the first year that I have had to file investing related tax returns. Owning to my profession, I have always had knowledge about the Irish taxation system and theoretical rules but until you actually see the cash leaving your account do you really see the consequences. In the recent Let’s Talk About Tax series, I explained the various taxes relating to investing. To summarise:
Individual stocks - CGT of 33% - €1,270 annual exemption
ETF/Index funds - Exit tax of 41% on gains - no annual exemption
Dividends - Marginal rate of up to 52% - no annual exemption
Ultimate Investing Goal
My ultimate investing goal has always been to enable me to be financially independent. This goal has not changed. I am on the left side of 30 and still very early in my investing journey so achieving this goal is definitely 15 to 20 years away at least.
When I think about being financially free, having an alternative source of income is obviously important to pay the bills. My strategy with 40% in value/dividend stocks identified this need. The dividend payments that are reinvested would compound over time so that in 20 years I would have a portion of my portfolio that was generating a decent income.
I am a full time PAYE employee taxed at the marginal rate of 52% on any additional income I earn such as dividends. As an example, €100 worth of dividends results in only €48 in my pocket. For comparison, €1,000 worth of capital gains results in €1,000 in my pocket based on the tax rules. As another example, €5,000 worth of dividends results in €2,400 in my pocket while €5,000 worth of capital gains results in €3,770 in my pocket. For 2020, I did not have to pay any CGT owing to the annual exemption but I did have to pay tax on minor dividend amounts.
Through a combination of my current employment status and period of time from financial independence or “retirement”, I do not need any additional income at this time considering how heavily taxed it is.
Going forward my investment strategy is going to consist of 70% growth stocks and 30% value stocks. However, I will no longer be investing in a stock purely for its dividend alone. This does not mean that I will not invest in a company that pays a dividend. What this means is that capital appreciation is the main consideration. For example, Microsoft and Innovative Industrial Properties both pay a dividend and will remain part of my portfolio because I still see considerable capital appreciation in the years ahead.
Essentially, any company with a high dividend yield and less prospect of capital appreciation will not fit with my strategy. Based on this premise, I have recently liquidated my positions in Realty Income and Hasbro. Realty Income is one of the most reliable monthly dividend paying companies and Hasbro was a value play that I picked up $70 a share and was able to sell for a 35% gain. These disposals equated to about 6% of my portfolio. I am still working through reviewing all of the stocks in my portfolio (both growth and value) to ensure that each one is in line with my investment strategy.
I have nothing against dividend stocks or dividend investing. As mentioned, I still hold a number of stocks that pay dividends and will continue to do so. This change in strategy is purely to do with the taxation system. I believe that at this moment in time this strategy will help me to maximise my returns after tax.
An obvious question might be “Why not invest entirely in growth stocks that do not pay any dividends?”. The answer to this is that I do not want to add additional risk to my portfolio. Growth stocks by their nature incur higher risk. Having value stocks in my portfolio helps to balance out the riskier growth stocks in my portfolio and this is something I do not want to change.
This strategy change is entirely to do with my own investing goals and the conditions that I am investing under. It is specific to me. You will have different goals to me and you might be operating in an entirely different tax jurisdiction.
As I progress with my journey and get closer to financial independence, there will come a time where I will want stocks in my portfolio that pay a higher dividend to supplement my income as income creation will be more important than capital appreciation.
Your investment strategy is a living thing. It should grow with you and change as you change.
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Wolf of Harcourt Street
Disclaimer: I am not a financial adviser and I am not here to give specific financial advice. The opinions expressed are for general informational purposes only and are not intended to provide specific advice or recommendations for any individual or on any specific security or investment product. The information is based on personal opinion and experience, it should not be considered professional financial investment advice. There is no substitute for doing your own due diligence and building your own conviction when it comes to investing.