Thursday, 11 March 2010

Dividends await on the investment horizon

A longer-term perspective can be a thing of beauty, with planning and good advice


Guanyu 道 said...

Dividends await on the investment horizon

A longer-term perspective can be a thing of beauty, with planning and good advice

Gregg Wolper
21 February 2010

Looking back is in vogue. With the New Year bringing a new decade, the turn of the calendar has sparked a flood of recollections. In news media, you can easily find discussions of the best movies of the decade, the top mutual fund managers of the decade, and much more. Some observers have begun offering predictions for the 2010s.

Whatever the value of reading - for example - which songs a particular blogger considers memorable, for investors this trend has a positive side. For at least a brief time, public attention has been diverted from tomorrow’s inventory report and next quarter’s earnings and refocused on a meaningful period of time.

It may be heretical, therefore, to note that in an investment sense, 10 years is not an eternity. Yes, as an alternative to the all-too-common focus on one-year returns or other short stretches, a 10-year measure provides welcome perspective. It is apt to cover more than one market cycle and a variety of macroeconomic environments. We often cite that period for such reasons. But for an individual investor, there are benefits to thinking far beyond a mere decade. How about 30 or 40 years?

Science-fiction territory

It is understandable why most people do not peer decades into the future. For a 22-year-old just graduating from college, even turning 30 seems eons away. For new parents, the main challenge consists simply of getting the baby to stop wailing. And for others, a 30 or 40-year time horizon is more likely to conjure up thoughts of aching joints than of happy investment returns.

Even when people do focus on the distant future, they are not likely to expect to own the same investments they hold today. After all, by the year 2052, say, an asteroid could have struck the earth, and the handful of us left alive will be wandering around a moonscape in ragged clothes and carrying battered grenade launchers. At least, that is what you learn at the multiplex.

In fact, it is not uncommon for people to own the same fund (or stock) for decades. And if one has the good fortune to enjoy an average life span or more, an investment horizon could last as long as 50 or 60 years. That does not mean investors should ignore prudent allocation advice; short or medium-term goals deserve appropriately low-risk investments, and reallocations over time make sense.

A stock-fund allocation that was appropriate at age 35 probably is not at 75. But that 75-year-old might still own some stock funds. And the bond funds that will dominate his or her portfolio at that stage could be the same ones bought nearly half a century earlier.

For long-term money that is not specifically targeted for a house or college, consider letting your thoughts stretch way, way out.

By including distant years right in their names, target-date funds have helped steer investors towards such a mindset. But target-date funds are hardly the only option for true long-term investing.

The important thing is to recognise just how lengthy the long term really is. Thinking of your investment horizon as a very long arc has a number of benefits.

The power of dividends

With a limited investment horizon, the idea of getting a 2 per cent or 3 per cent dividend yield from a stock or stock fund may not have much impact. But as the time period under consideration lengthens, the compounded numbers add up. Over 30 years or more, the difference between even a modest dividend and none can no longer be ignored. It does not make a lousy stock or fund worth buying, and dividend levels are not set in stone. But extending your time frame helps magnify the power of dividends.

Guanyu 道 said...

Sit back and relax

Suffering through downturns can be hard on all but the most hardened investment veteran. If a reversal extends to a year or more, the idea of shifting all your money into short-term CDs (certificate of deposit) or ultrashort bonds can be tempting, even if you know - in vague terms - that you have time to recover.

But if you have truly absorbed that your investment horizon extends many decades, it is easier to accept that a one-year downturn most likely is not the catastrophe it feels like at the time.

Cost consciousness

It can be easy to ignore high fund costs for a couple of years, especially when a fund is pumping out juicy returns during a strong rally. But if you think you will be paying that steep fee year in and year out until 2050 or so, you might think twice. That is a good thing.

Reduce temptation

If a decade is your definition of long term, it might be tempting to shift money around in an effort to take advantage of what seems likely to outperform in the next couple of years. That is 20 per cent of your time frame. But with an extended time horizon in mind, such tactics will not seem worth the effort. You might feel confident in your ability to forecast the next few trends, but how about your skill at predicting such patterns consistently well over three decades or more? Just the thought of it is exhausting. Anything that steers investors away from a strategy of rapid, trend-seeking moves is welcome.

In conclusion, taking a truly long-term perspective does not mean you must own the same funds forever. Of course you should make adjustments if your personal circumstances change or if the funds change.

And, to repeat, the advice to extend your investment horizon to several decades applies only to long-term money that does not have a specific end-date such as the time when a five-year-old enters college.

So, let your investment thoughts wander well down the road. And, just in case, stock up on sturdy clothes. If that Hollywood-style apocalypse does occur, times will be tough, but there is no reason we should have to wear rags.

Gregg Wolper is a senior mutual fund analyst at Morningstar