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By Donald Parker

Portfolio selection using fundamental analysis as part of a dividend growth investing strategy

An investment strategy that employs dividend growth for overall profitability must have a long-term perspective. The appreciation that takes place in the portfolio comes as a result of its total return, which measures not only price growth in the investment (capital gain) but also interest earnings and the inclusion of dividends paid. Presumably, those dividends are paid consistently over time by the corporation at or above the previous quarter or year's level.

Determining the best time to buy a desired security can be a bit tricky. Market timing, as a determinant of the success of a portfolio, has less influence than the investment policy pursued by a fund manager. A famous study was conducted by economist Gary P. Brinson, along with his colleagues L. Randolph Hood and Gilbert L. Beebower entitled, "Determinants of Portfolio Performance" that appeared in the July/August 1986 issue of the Financial Analysts Journal.

This study looked at 91 portfolios managed by institutional investment manager SEI over a 10-year period. The study found that market timing together with investment policy was far less effective than policy and selection or investment policy alone (with no other determinant such as selection or timing).

Employing a herd mentality when choosing stocks can result in a portfolio that is not reflective of your investment goals or values but rather offers you the potential for high returns mixed with an unnecessarily high level of volatility.

When you take an approach to investing that is based on analytics and long-term discipline, you are in better position to take advantage of buying opportunities. They tend to be advantageous to you, and have the appropriate amount of leverage in order to protect against extreme downside risks (volatility) that hurt the value of your investments.

What fundamental analysis involves

Fundamental analysis of a company's stock looks for information regarding supply and demand and analyzes that information in order to anticipate future price movements. This differs from technical analysis, which consists primarily of charting the price of a security (chartists consider the chart pattern of a security in determining what to buy and when).

The fundamental analysis you concern yourself with regarding a dividend growth investing strategy relates to the measurement of stock performance and the potential for growth over time. Companies that pay high dividends tend to be better managed in terms of their overall finances (i.e. cash flow statements, balance sheet, statement of earnings, etc.) and reward their shareholders (investors) with higher, consistent dividend payouts.

Long-term dividend payouts

Companies with a history of paying dividends over time tend to be those who perform better than those companies that do not. Dividend growth is indicative of a company that manages its cash flow well and through their performance, reward its investors. There is a notion that you cannot fake paying out dividends as opposed to "projected earnings."

This is what differentiates stable, blue-chip stocks from high-flying start-ups that garner attention in the financial press and are chased by investors based on the axiom the higher the returns, the higher the reward. Investors, however, tend to forget that this also correlates with a higher volatility when the financial statuses of these companies are exposed.

Article sources

Brinson, Gary P., Randolph Hood, and Gilbert L. Beebower. "Determinants of Portfolio Performance." Financial Analysts Journal. CFA Institute, Jan.-Feb. 1995. Web. 2 Nov. 2016. <http://www.cfapubs.org/doi/pdf/10.2469/faj.v51.n1.1869>

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