None other than Albert Einstein called compounding “the greatest mathematical discovery of all time”. And Ben Graham, the patron saint of value investing, was adamant about compounding through the receipt of dividends. Compounding is the process of generating cash investment returns (through receipt of dividends, interest, and premium from the sale of call options) and then reinvesting those cash returns into more cash generating vehicles. Sounds pretty boring, doesn’t it? Compounding does not make for exciting conversation at cocktail parties. But it does get exciting after some years have passed, as your cocktail party conversationalist is lamenting how that biotech stock that promised so much, and shined so brightly for a short while, eventually delivered so little as it crashed back down to earth.
Since 1926, nearly one-half of the total return delivered from stocks has been generated through the dividend component of the investment return. During long stock market dry spells, such as the sixteen year period from 1966 to 1982 that produced a negative return in major market averages, income yield from dividends partially bailed out the investor during that difficult market period.
Also, (young people pay attention) time is the compounder’s best friend as the following chart illustrates. Note that in models 3 and 4, both of which reflect a $3,500 contribution in 30 out of 40 years, there is a substantial difference in the eventual outcome due solely to the timing of the contributions.
In summary, through investment strategies that include the receipt of dividends, interest, and proceeds from the sale of out-of-the-money call options, the element of compounding is present in all portfolios managed by 21st Century Equity Advisors Corporation. Client portfolios include ownership of Canadian Energy Trusts, which, as a group, are possessors of the world’s highest dividend yields, exchange-traded-funds that engage in call writing, and exchange-traded master-limited-partnerships, each of which produce high dividend yields.
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