In Stop Working: Here’s How You Can! and The Lazy Investor, Derek Foster advocates a strategy of putting a portion of a portfolio in income trusts and says that he expects the distributions to rise as fast as inflation. His claim that even very young investors can retire on a portfolio of much less than $1 million rests on using this strategy to boost a portfolio’s yield.
The current market turmoil has clearly demonstrated the risk in relying on income trusts. In The Lazy Investor, Derek provides the holdings in his portfolio at the time of retirement, which will allow us to analyze how his own portfolio performed over the past 5 years.
Algonquin Power Income Fund (APF.UN) – 8%
Canadian Oil Sands Trust (COS.UN) – 11%
Corby Distilleries (CDL.A) – 6%
Enbridge Income Fund (ENF.UN) – 6%
EnCana (ECA) – 7%
Johnson & Johnson (JNJ) – 10%
Livingston International (LIV.UN) – 5%
Manulife Financial (MFC) – 7%
Pembina Pipeline (PIF.UN) – 3%
Pengrowth Energy (PGF.UN) – 8%
RioCan REIT (REI.UN) – 5%
Epcor Power (EP.UN) – 4%
George Weston (WN) – 7%
He does mention that he sold some stocks not listed here and replaced them with others, but the above names make up 87% of the portfolio and the conclusions reached should largely hold true. Note that income trusts make up over 50% of the portfolio.
Assuming Derek retired with a $100K portfolio, I used the stock prices as of June 30, 2004 to figure out how many shares of each stock he owned. Then all you need is the dividend history of each name to figure out the income from the portfolio. In 2004, the portion of the portfolio under analysis would have yielded $4,863 or 5.6%. Over the next few years, the strategy was remarkably successful — dividend income grew to $5,106 in 2005, $6,212 in 2006, $7,713 in 2007 and $9,896 in 2008. In five years, dividend income from the portfolio had doubled.
But 2009 will be a year of reckoning. Four income trusts have drastically slashed their payouts (COS.UN, APF.UN, LIV.UN and PGF.UN; the distributions from the last three names today are below 2004 levels) and the cash flow will plummet to less than half that of 2008. In 2009, the portfolio will generate $4,766 (yield is 6%), which is 2% below the income generated in 2004. The portfolio has also lost 8% since mid-2004.
It is instructive to look at XIU’s performance over the same time period. XIU’s dividends have increased from 20.5¢ to 47.4¢ and its value has increased 11% since mid-2004. Meanwhile, XIU’s dividend yield has increased from 1.7% to 3.9%.