Building a passive income growth machine

dana-edwards (74)in #life • 8 years ago

Note: This post is not to be interpreted as investment advice. All information in this post are my well researched opinion.

Passive income is the goal and can come from various sources.
Growth means the underlying assets are gaining in value over time.
To be a machine implies that the processes are automated as much as is feasible.

The effects of a passive income growth machine is an automated income generation which will make your money work for you under any circumstances. You could be in a coma, in a hospital, in jail, and this machine will still be generating income and growing in value.

How is it possible to create a passive income growth machine?

One traditional way of building a growth machine of this sort is through the dividend growth investing model (DGI). This involves carefully screening dividend stocks to make sure they come from high quality companies, to make sure they have a strong track record of paying increasingly higher dividend yields, which are companies in industries projected to have high economic growth, which have an intelligent and dedicated management team.

Benjamin Graham was the originator of the value investing paradigm. A value investor seeks to determine the true value of a company to determine the value of the stock. A company is made up of various assets which include everything from employees, to social relationships, to position in the market and more. Benjamin Graham put books called "Security Analysis" and "The Intelligent Investor" which all who seek to follow the value investing philosophy must read. Let's look at a few quotes from the work of Ben Graham to fully grasp the importance of his work:

“In the short run, the market is a voting machine but in the long run, it is a weighing machine.”

“The intelligent investor is a realist who sells to optimists and buys from pessimists.”

“The stock investor is neither right or wrong because others agreed or disagreed with him; he is right because his facts and analysis are right.”

“People who invest make money for themselves; people who speculate make money for their brokers.”

What is the Graham number?

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The Graham number is a figure that measures a stock's fundamental value by taking into account the company's earnings per share and book value per share. The Graham number is the upper bound of the price range that a defensive investor should pay for the stock. According to the theory, any stock price below the Graham number is considered undervalued, and thus worth investing in.

While you don't have to only rely on the Graham number as a valuation metric, it is necessary to use a valuation metric. An investor is not a speculator. Speculators are gamblers while investors know what they are doing and use tactics like hedging to manage their risks. By getting the analysis right as a value investor you will not put your money in a company which doesn't actually deserve the money. If it's crypto space this sort of value investing is more difficult because no one has come up with a standard valuation metric for determining the value of a token, but we will get this level of analysis at some point if it's not already happening in private.

What is the strategy of the dividend growth investor?

The actual practice and strategy of dividend growth investing can be quite varied among individual investors, but at its core, dividend growth investors seek high-quality companies that are capable of growing profits for extended periods of time and that pay shareholders sustainable dividends that are regularly increased on an annual basis.

Dividend growth investors are not traders or speculators seeking to profit from the market's regular price fluctuations. Rather, they are investors who prefer to build wealth over time by buying and holding a diverse portfolio of high-quality companies and allowing the dividends paid out by such companies to compound over time. The compounding of dividends can occur either by reinvestment of the dividends back into the company that paid the dividend or by accumulating dividend payments in a brokerage account and, subsequently, investing into other dividend-paying companies. Dividend investment vehicles could include individual stocks, mutual funds, ETFs, REITs, MLPs, BDCs, or any combination thereof.

The dividend growth investor leverages compounding. This compounding allows a holder to both grow and diversify their holdings over time whilst also increasing the size of their income stream whether measured in terms of total amount of money paid out annually, or and in terms level of diversification. This is a win win situation where the dividend growth investor may reinvest their income into successful companies, only to spend what they need to live from.

What is the dividend champions index?

The challenge of analyzing each stock has already been done and indexes are compiled. One index is the dividend champions index but there are many such indices. For an example of what this sort of index looks like have a look here

There are more than just high value dividend stocks to hold

We mostly covered value investing and dividend stocks but there are all sorts of passive income generating assets. Owning rights to movies, to art, holding patents, are also paths to long term residual income. For example municipal bonds are also an option and can offer very favorable tax status:

In some cases these municipal bonds offer tax free interest. The bonds are backed by the town which can raise property taxes to pay for the debt. If you think the town is going to grow with investment and would like favorable tax status then this can make sense.

It's not good enough to build an income generating growth machine, but it is also important to put emphasis on tax efficiency.

References

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8 years ago in #life by dana-edwards (74)

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janusface (68) 8 years ago (edited)

Great post! How can value cryptocurrencies, e.g. if they are overvalued, margin of safety etc.:)?
Is Steemit a bargain in a Grahamian-sense?

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dali.soh (50) 8 years ago

I'm quite sure it's impossible to evaluate since the value of Steem currency is based of the amount you can exchange with fiat currency. Unless there's mainstream adoption where you can actually purchase goods or services with cryptocurrency, I would say it's really hard to evaluate any sort of cryptocurrency correctly.

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bukigirl (46) 8 years ago

Great post! It's what we try to teach our kids everyday! Passive residual income sets you free!

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indepthstory (53) 8 years ago

best advice ever given to me ..... never listen to anyone's advice UNLESS they show you their portfolio up to date... .. ALWAYS make your own decision in reference to where to place your assets .. how? you study ..

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fuckmylife (59) 8 years ago

While on the topic of taxation and passive income it is also important to note that "passive" income is taxed at a much higher rate than "active" income is. In Canada for instance passive income is taxed at 50%. With that being said, you may be better offer operating an active business that generates a much smaller profit than you would be from operating a business with a lot of passive income. In retrospect it all comes down to your disutility of effort and willingness to pay taxes. Nevertheless, though passive income streams are attractive, they do have their share of pitfalls.

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