I’ve been giving a lot of thought lately about my investing process. My strategy is to invest in dividend growth stocks and currently I put any money I have available to use right away by making a purchase of stock in one of the companies on my watch list. The ideas is that I am buying shares as soon as I can allowing me to immediately benefit from any dividends paid by my companies and any dividend growth. Lately I’ve been contemplating whether it would be a better idea to build up a cash reserve in my stock account so that I can take advantage of any negative market movements that offer up amazing buying points of the companies I would be interested in. Today I want to take a look at these different processes and why we might consider either method.
Put New Capital to Work Immediately
My current investing process is to put new money to work immediately when I have it. Usually I will try to accumulate cash until I have about $1,000 and then I decide I am ready to invest. I try to make minimum purchases of $1,000 to cut down on transaction costs (commissions). So when I have $1,000 ready to invest I take a look at my stock watch list. I look at recent price action in the different companies, current dividend yields and P/E ratios compared to the respective companies historical P/E ratios. At that point I like to pick out 2 or 3 companies that I believe look like good values at the time to do a complete stock analysis on. Once I’ve done my analysis and think I’ve found a stock either undervalued or fair valued I will make my purchase.
So far this method has worked for me because I feel like I’ve always found a few stocks on my watch list that are currently offered at a good valuation. I believe that when the time comes that none of the companies I would like to purchase are trading at a good valuation then I will choose not to invest and rather save the cash until I find a company with a more reasonable valuation. However, since I’ve been dividend growth investing the past couple years I have always felt some companies on my list have been trading at good valuations and I haven’t hesitated to immediately put my money to work by buying some shares.
Build Up a Cash Reserve to Take Advantage of Opportunities
Lately I have been questioning my current process of putting capital to work immediately once it’s available. I have been considering saving up a reserve cash amount that I can use to take advantage of any great investing opportunities that present themselves.
For example, the short term future of the US stock markets was recently in question due to the Fiscal Cliff being debated in US Congress. The worry was that if Congress could not come to an agreement to halt across the board tax hikes and spending cuts, the country would plunge into recession and the stock markets would see a large decline. If the large decline came to fruition, investors with extra cash available would have been able to take advantage buy purchasing some great companies at great discounts. Unfortunately, I would have been forced to mostly sit on the sidelines and watch as many of the stocks on my list began trading at prices I could only dream of buying them at. I would have to sit on the sidelines because I don’t have a cash reserve built up to take advantage of this situation. I probably would have been able to afford about 1 purchase. I do have an emergency fund that I would have been tempted to tap into, however that is not the type of emergency that I have set that money aside for and my wife would probably have my head if I even thought about it.
So the idea behind this process is that I would slowly begin accumulating a cash reserve in my stock account to be used in times of opportunity. When we see another recession sometime in the future I would then be able to put that cash to work by purchasing companies at great prices. I wouldn’t stop investing completely while building up this reserve cash but I would be investing less often because I would be splitting my resources towards the achievement of the two goals of stock investing and cash accumulation.
I really have no idea which method of capital utilization would be better in the long run. I like purchasing stocks as often as I can. I’d almost consider it an addiction because I get a rush seeing those shares in my portfolio and seeing those dividends getting paid. I would probably have a tough time seeing cash available to invest and not investing it. This is especially true because I am usually finding more companies to buy than cash that I have available. I feel like I can usually find something at a good valuation to buy. I know this may not always be the case and when that time comes I will accumulate cash to be used at a later time when stocks are better valued. The other reason I like to put cash to work immediately rather than later is because I have no idea when the next great stock buying opportunities will present themselves. I may end up sitting on cash for quite a few years before we have another recession offering great stock prices. Those could be years worth of dividend income that I would be missing out on.
What do you think? Do you have cash reserves built up to take advantage of investing opportunities? Do you prefer to put your capital to use immediately when available? Please share your thoughts in the comments and your reasoning behind the methods you use!