Do Income Strategies Work?
What an eventful 2 weeks this has been! But we’ll get to the markets later. First, I wanted to look at income strategies as I am getting a lot of questions about them.
Predictable Cash Flow Strategies
I can understand anyone wanting to have a regular income from the stock market. It would be nice; it’s a very seductive idea. But I ‘m afraid, that’s not how the market works. I couldn’t agree more with the quote:
The market is not an income-generating machine; it’s a vehicle for capital growth, not a predictable cash flow.
Many new investors approach the market expecting a consistent, predictable income – in other words, a paycheck.
Promises, Promises
There’s no shortage of books about ‘trading for income’, or promising to ‘turn every Friday into payday’ or have ‘lifelong passive income’. But do they check out? Let’s look at practicalities. There are 2 main ways to generate an income from stocks:
Dividends
Selling options (wheel, covered calls, etc)
This week we will look at dividend stocks and assess whether they are worth getting involved with.
Dividend Investing
This strategy focuses on buying stocks that pay regular dividends. You buy the stock you get the dividend, usually quarterly, giving you a regular income without having to sell your stock.
Sounds great. That is, until you look at the reality.
The average dividend paid by the stocks in the S&P 500 is 1.35% (as of 2 November 2024). (The Dow it is a little higher at 1.8%. )
That means that you get a 1.35% return on the value of your stocks, plus any appreciation or depreciation (stocks go down as well as up)
Let’s do some figures and see if it is going to work out for us. Let’s say that you want an annual income of $100k. What capital do you need to get this?
I hope you are sitting down. $7,400,000.
Yep, that’s right. Rather a lot.
So, this strategy is not really practical for the majority of investors.
High Dividend Stocks
Of course, some stocks give much higher dividends. The highest is WBA (Walgreens) with a dividend yield of 9.6%. Now that’s attractive!
On the surface, yes. It’s a lot better return than putting it in the bank.
But look at what it means in practice; here’s the chart of WBA for the last 10 years:
Yes, at the end of 2014 it was trading around $75. Let’s say you had $1m worth of stock, then your income for the year would have been $96k. Close to what you wanted, but with much less outlay.
If it sounds too good to be true . .
But follow this through for a few years, up until the present day. Your WBA stock is now trading around $9 so your initial $1m investment is now worth $90k.
In other words, you have lost over 90% of your capital.
And the dividend? Not good news either.
. . . it probably is!
Remember, as the stock decreases in value, so does the dividend.
Your yearly income would now be $8,640.
In other words, both your capital and your income have shrunk by 90%.
You are broke, without much chance of a comeback if you stick to that strategy.
In my opinion, it is a sure way over the hill to the poorhouse.
Swings & Roundabouts
I picked the top paying dividend stock in the S&P 500 (WBA) without knowing what the chart looked like, but when I saw it, I had to laugh. I couldn’t have picked a more perfect example:
In general, high dividends usually mean low capital growth.
Lower Capital Growth
Companies that pay high dividends usually prioritize returning profits to shareholders over reinvesting in their own company, and so miss out on growth opportunities and limit their future expansion potential. As a result, high dividend stocks tend to have slower capital appreciation – or worse none at all or even worse causing you to lose your capital.
The Takeaway
The main takeaway is that dividends are paid as a percentage of the stocks’ value; as the stock decreases in value so does the size of your dividends.
Of course, it is always easy in hindsight to pick out a few time periods and stocks where it worked well – and then write a book about it!
Dividend investing as a strategy? Not for me!
Next week we will look at using weekly options to generate income.
To the markets . .
Well, what a week! The market left us in no doubt what it thought of the election results. The surge was due to investor optimism, calculating that the president-elect’s policies (like corporate tax cuts and deregulation) will stimulate economic growth and boost corporate profits. The Fed reducing interest rates by 0.25% didn’t hurt either.
So, let’s see what actually happened.
SPY Charts
I have made the chart a bit busy with all the horizontal lines (support / resistance). It is not that I think there is any magic about it, but I am continually surprised how often they help us predict what will happen.
You can see that from early October, with the exception of the big wobble on the 31st October caused (probably) by disappointing earnings from MSFT and META. The MSFT earnings did not seem to me to be particularly bad, with and EPS of $3.3, higher than analysts’ consensus estimate of $3.10, revenue of $65.59b against $64.57b) – in fact when I first read them, I thought they were good and was surprised at the drop. Similarly, META had EPS of $6.03 higher than the analyst consensus of $5.19, and revenue of $40.59 against $40.21.
I can imagine MSFT and META shrugging their shoulders and saying
‘what do you have to do to please people these days?’
However, the story is that investors were concerned about future growth and increased expenditures, on META’s case on AI. Well, that was the explanation anyway.
Anyway, back to the chart. The previous intraday highs on October 17 and 18 ( $586.12 and $585.39) almost exactly match the intraday low of November 6 ($585.39 – no, that’s not a typo). Since then, SPY has been trading above this level, and it is likely that at some stage it will come down to it and test it for support – especially as it is approaching the $600 level, with and intraday high of $599.64 on Friday. Will this level prove to be resistance, or will SPY sail right through?
I don’t know. Nobody does. But it would be nice if it did.
Keeping things in perspective, here is the longer term chart, with the uptrend still in place.
SPYG Charts
SPYG is also making new highs – lovely! It was affected also by the META and MSFT results, so the comments about SPY are relevant here also.
Keeping things in perspective, here is the longer term chart, with the uptrend still in place.
QQQ Charts
Finally!! QQQ has made a new high! It certainly took its time, almost 4 months. After the META and MSFT results it also had a mini-slump, dropping to the support level (blue dashed line) before rejecting it over 3 days then heading north again. Given that it had been in a holding pattern for 2 months it was well overdue.
On the longer term chart we can see that it has left the bottom of the trading channel, and that it is over the psychological barrier of $500.
VIX Chart (Volatility)
The VIX has settled down and is well below the low volatility threshold of 20.
ITMeter
The week ahead . .
After the last 2 weeks I am hoping that things settle down a bit – on the upside, of course. Earnings season is winding down – this week the majors reporting are HD, CSCO, DIS and BABA. Next week NVDA will report (20th November) and so there may be some extra volatility then.
The futures
The futures are slightly positive, but it is still 10 hours to market open. I was expecting a bit of a sell-off on Friday, which didn’t happen. I thought that after 2 very strong days that traders would be taking profits, especially as it was a Friday, but it went up instead. Tonight, we may see some selling as T+2 from last Thursday plays out. (What this means is the settlement period, the transaction date (T) plus two business days to complete the trade)
I know people are getting twitchy, and that you want to ‘lock in profits’. As I’ve explained in many other blog posts, traders tend to sell their winning positions and hang onto their losing ones. Yes, one day the market will turn and we will kick ourselves for not getting out at the top – the only problem being that no-one knows the top until after it has happened.
We all know that losing money is painful; but, speaking from experience, there’s a peculiar sort of pain when you have sold out and the market continues to climb.
We traders have a painful life! (not really, I love it)
Next week
I am back from Melbourne Cup week, and last year I posted a photo of the trophies. This year I was sitting in front of this at lunch – it is the Everest trophy, the richest turf race in the world with a prize pool of $15m AUD. Evidently the trophy itself is worth $370k. It’s very pretty!
Fingers crossed for a good week!
Heather
16 Responses
No one knows what will happen so I have never known what the market will do. Some have a gift for sensing what will happen or more accurately have a feeling for the market much more so than others. I have never understood the need for a Coach or a Guru to teach or lead me though. I am not the sharpest knife in the Drawer but I know I am not the dullest either by far. I figured that if I can’t figure things out myself why bother with it and just become a buy and holder or Hoper. If you have Charts and a working knowledge of Charts and average intelligence both cerebrally, and emotionally you can do better than average, sometimes much better. After having an interest in the Markets beginning in 1975 and trading one way or the other since 1980 this is the best I can tell anyone is find your own way and use the best of what you learn from others. I try not to give anyone advice however tempting the feeling of trying to help because I know my way may not be their way and I can guarantee on the Journey you will have losses, maybe bad ones. Good Luck.
Hi Tommy – you are right, no-one knows what will happen, but my premise is that the market is not a ‘thing’ it is a mass of people reacting to their fears and hopes. This makes it more predictable (crowd psychology comes into force) and not completely random. If it were random, then it would not increase over the years, but give a flat line graph.
I am always amazed at how accurate simple things like support / resistance can be. It is like buying a car – say you know it is worth $50k (list price, for example) and you see it on sale for $45k you think ‘what a great bargain’ and rush in with your credit card. Conversely, if you see it on sale for $55k you think ‘ridiculous – not buying at that price’.
So, for example, right now I am expecting SPY to retreat some more and test the $500 level. Will I be right? Maybe. Maybe not. But we have precedent that it often behaves that way.
And re advice – I am just saying what I do and what has worked – I am definitely not in the business of giving financial advice!
h
Hi Heather, If we move up in strike price as the market rises, shouldn’t we move down as the market lowers? It just seems (in my mind – have not done the math yet) that we are only working one side of things as the market moves (moving up as the market moves up but not moving down as the market goes down, until the out signal). Thanks for your insight!
Hi Eli
It sounds logical I know – but if the market is moving down significantly we will be getting the out signal If currently SPY is trading at 600, then the 50% strike is 300. If the market drops, say, 10% to 540 then we will have a death cross and get out.
ITM has been tested on buying the 50% strike at the golden cross and not adjusting it down, only up so I don’t know what the results would be, but I think you would be involved in a lot of churn for no reason. Even though the SPY spreads are small you still lose a little on each transaction, and IM is designed to be very ‘hands off’, needing only to be monitored for golden & death crosses and very occasionally adjusted if the market has risen strongly.
Hope this helps
h
Hi Heather. This is Andy again. Hope you had a great vacation. I figured out my problem with displaying 10 and 200 day SMAs on Tradingview charts. When you set up the SMA dialogue box you can select the calculation timeframe at the bottom of the inputs tab. If you select “Chart” it defaults to the interval on the selected time scale at the bottom of the chart. If you select “1 Day” the SMA will calculate for 1 day intervals for all chart scales. I took a screenshot but I can’t get it to paste on this blog entry. Thank you for responding to my message. I am learning a lot from you and I really appreciate it. Regards, Andy
P.S. I will try sending you the screenshot to your email address.
Hi Andy
I am getting confused about what I have replied to and what I haven’t – I think both you and Jim have the same question – so I will post my reply here – and please get back to me if it doesn’t make sense!
Hi Jim
I’ve just worked out what you are doing – I was completely confused about what was happening.
I never use the bottom left menu (the 1D 5D 1M etc) – those just give predetermined settings which we don’t use because they don’t help us.
So just to be clear:
1. Choose ‘D’ from the top left menu at the top of the chart (it says SPY then a plus in a circle, then1m 10m 1h D – choose the D)
2. Click on Indicators (top left of center)
3. Choose the moving average ribbon, and put the settings at 10 day and 200 day. The value of these SMAs will not change no matter what length of time period you use, so a golden cross will always be at the same place.
4. Then to zoom out and in on the chart just use the roller on your mouse (rather than clicking on the bottom menu) and you can see whatever time period you want.
Hope this helps – maybe I should experiment with making a video for people, what do you think?
H
Dear Heather,
Thank you for your weekly blogs as always. I am so happy that you are back from vacation. Speaking of the Melbourne Cup, I hope you can start your own version In The Method Cup and reward to the best In The Method members every year. Hopefully we can grow the In The Method to the level of Berkshire Hathaway in Omaha, Nebraska. I am brainstorming. Thank you so much.
Sincerely,
George Halongton in Los Angeles
Hey George! Hope you had a great time in Hawaii!
Interesting idea about an ITM cup – but how would we judge it?
x
h
Dear Heather,
We can judge the ITM Cup by seeing which ITM members follow the ITM Method diligently and patiently. We can ask the ITM Members for their ITM Method annual performance and we can keep track of them. Similarly to the Melbourne Cup of racing. Hawaii is very peaceful and heavenly. It is tropical and it lacks wintry weather with snow. Los Angeles pretty much has everything in terms of the weather. I am sure Melbourne and Los Angeles are similar. In Los Angeles, the Lakers won the NBA Cup mini-tournament last year in December of 2023 and recently the Dodgers won the World Series beating the New York Yankees.
Sincerely,
George Halongton
I finished reading your Bull, Bear and market timing books and am excited to get started! Looking at the markets and specifically SPYG, it looks like it might be a while before I can get in. Am I reading this correctly?
Steve
Hi Steve,
You have missed a lovely bull run this year, but that doesn’t mean that you can’t get into the market. Bull markets last longer than bears, typically 4 – 6 years so this one is just over a year old so may have a good way to run.
I have addressed this question in some blog posts – just google ‘Heather Cullen Riding the Bull’ and ‘Heather Cullen Joining the Bull Run’ and ‘Heather Cullen Bull Runs’. If you still have any questions after that please get back to me.
h
Hi Heather,
I am setting the chart as per you instructions to 10 and 200 days and the drop down window to one day which makes the chart a one year chart. The problem is if you go down to the bottom left of the chart and change the chart to 6 months it changes the 10 and 200 time frame to 2 hours instead of 1 day. if you change the chart to 5 years it changes the 10 and 200 SMA to 10 weeks and 200 weeks.
Try changing the chart at the bottom to anything besides a year and look at the drop down menu and you will see that it changes too. I am sure this is what some people and doing to get the inconsistencies with the moving averages.
Hi Jim
I’ve just worked out what you are doing – I was completely confused about what was happening.
I never use the bottom left menu (the 1D 5D 1M etc) – those just give predetermined settings which we don’t use because they don’t help us.
So just to be clear:
1. Choose ‘D’ from the top left menu at the top of the chart (it says SPY then a plus in a circle, then1m 10m 1h D – choose the D)
2. Click on Indicators (top left of center)
3. Choose the moving average ribbon, and put the settings at 10 day and 200 day. The value of these SMAs will not change no matter what length of time period you use, so a golden cross will always be at the same place.
4. Then to zoom out and in on the chart just use the roller on your mouse (rather than clicking on the bottom menu) and you can see whatever time period you want.
Hope this helps – maybe I should experiment with making a video for people, what do you think?
h
Hey Heather, first off thank you for your books !! I happened upon them on amazon and i love it!! i had an odd question as i am new to options. I use Charles Schwab for all my accounts and trades but peek on robinhood’s option chain for the simplicity and when i look DITM they show a % chance of profit being zero which confuses me. Im sure you are extra busy but if you have a simple reasoning for it that would be cool 🙂 Also, do you offer 1 on 1 coaching? quick financial breakdown: i have about 420k in the markets another 100 in cash now and am 39 years old, i own my home and have one duplex on the books AND the big “and” i am sick of working so hard every day lol i would be willing to invest in something like that to have a holding hand to follow your teaching and help me with those first few ” big jumps” thanks again, Joe
Hi Joe, that’s a nice sized portfolio, and you seem to be in a good financial position for 39 years! I think my portfolio at that age was around $1k! So well done.
Re 1 – 1 coaching – no , I don’t do that, mainly because I don’t want to be responsible for someone e’se’s performance. It is one thing to share what I have learned over the years, quite another to advise someone what to do – and in any case I am not a financial adviser so technically can’t give financial advice.
But – you don’t need 1-1 coaching – ITM is so easy, you just follow the rules and any questions ask them here.
I totally understand wanting to give up working – that was my big impetus too. Now I haven’t worked for anyone else for almost 20 years, and have never regretted giving up corporate life. Hopefully the market is in for a bull run (after the election) and your portfolios doubles!
h
Hi Joe, that’s a nice sized portfolio, and you seem to be in a good financial position for 39 years! I think my portfolio at that age was around $1k so well done.
Re 1 – 1 coaching – no, I don’t do that, mainly because I don’t want to be responsible for someone else’s performance. It is one thing to share what I have learned over the years, quite another to advise someone what to do – and in any case I am not a financial adviser so technically can’t give financial advice.
But – you don’t need 1-1 coaching – ITM is so easy, you just follow the rules and any questions ask them here.
I totally understand wanting to give up working – that was my big impetus too. Now I haven’t worked for anyone else for almost 20 years, and have never regretted giving up corporate life. Hopefully the market is in for a bull run (after the election) and your portfolios doubles!
h