My wife’s “chicken hatching theory”

  Before I talk about the “theory”, let me first show you the long term chart for two stocks. Which one would you be more interested to buy? I’m sure you may think I’m too stupid even asking about this. Of course everyone will pick the one that has gained almost 600% over the 10 year period. Sure very logical and wise to go with this stock aiming for the maximal share price appreciation. I cannot blame you as I’d have made the same decision if I did not  know anything else in investing. But don’t be surprised that I’d actually pick the other one that has only gone up about 200% as I can show you, for long term investment, actually you can make much more money for a special type of stocks that are just staying low over time.

If you have followed me for some time, you really should not be surprised by my choice as I have talked about this idea several times here. But I know it is not a straightforward idea that many people can easily understand. That’s why I was surprised about my wife’s understanding about it and actually has come up with this easy to understand theory which I call as “Chicken Hatching Theory”.

Yes, no surprise to many of you, I’m talking about the dividend reinvestment strategy or DRIP. Let’s say you have a good stock, a mother chicken. One conventional way to make money from it is to grow the chicken as big as possible, i.e. the share price appreciation. Certainly no problem with this strategy, which can also make you a lot of money if you are right about the stock direction.  The problems for most people thought are the challenge to find such a supper growth stock at the right time and right price. You got to be perfectly right on its direction and can stay long with it even during volatile periods. And virtually for all the growth stocks, there is always a upper limit how much it can grow to over time. After all, no chicken can grow unlimitedly big. But if this chicken is good at laying eggs (dividends) that can be hatched to produce baby chickens and the baby chickens can grow and lay more eggs that can produce more chickens for more eggs and more chickens...., what will happen over time with this snowball effect? Well, you can end up with an unbelievably large amount of chickens that are all laying eggs for you to produce more chickens and eggs. As long as the mother chicken can continue to lay eggs, there is no limit how many more chickens you can have. The longer the cycle goes, the more chickens/eggs you will get. Eventually you will amass a wealth by this simple strategy that you can hardly imagine upfront. The best part? You don’t need the mother chicken to grow itself, i.e. even if your direction for the stock trend is bad and stock is not doing great for years, you actually can even make more money from this seemingly bad situation, as it can produce more chickens/eggs for you during the course. Got the idea? What a brilliant way to explain this complicated strategy, thanks to my dear wife. I love you, honey! And happy Mother's Day💞
    But let me be clear about this strategy: it is not a quick rich idea at all and actually it requires painfully long-term patience to stick to it regardless how the stock (the mother chicken) is doing. Another critical winning factor is that this stock must be good with a long term track record of increasing dividends (the eggs). The high the dividend growth rate, the better the long term gains! If you can find this kind of stocks, all you need to do is just to buy it at a reasonable price and set up an automatic DRIP and then you can simply forget about it. You won’t feel much in the early years while holding it but the magic will start to show after 15 years which will accelerate in an unbelievably fast pace thereafter. I know most people won’t have this kind of patience and for them they cannot even wait for 6 months to see the result, not to mention 15 years or longer. I’m certainly not against aiming for fast return within months or even weeks or days. That’s why I’m very active in trading. But for my long term investment, I’m extremely patient and only interested in such great dividend growing stocks and then let the DRIP do all the heave lifting work for me. It is really an effortless long term strategy. All I need is the patience that can turn a small amount of money into a life changing wealth. With that in mind, let me get back to the stocks I just showed above and prove mathematically the validity of the strategy.

The two stocks on the chart above are Home Depot (HD) and Lowes (LOW). No surprise, HD is doing much better in the past 10 years than LOW. Both companies are great dividend growers and for the 30 years history, they have increased their dividends by over 20% annually, an incredible strong dividend growth you can rarely find. So back to the question which one you would prefer for long term investment, assuming both have the similar valuation? I bet most of you would go with HD. No brainer, isn’t? But not for me actually. I’d go with LOW. Here is why. Let’s assume to invest $1000 for an annual dividend of $0.014 with a stock price as $1 per share (dividend yield 1.4%).  This was roughly the real data for LOW 30 years ago. Now let’s compare the following two scenarios:

Scenario 1: We invest this $1000 for 30 years with dividend reinvested. The dividend is growing annually at 20% (another real data). Let’s also assume the stock price is also increasing annually by 15%. This high share price growth is what most people would love to see, right? So how much money you can earn in 30 years with dividend reinvestment? An amazing $155K with an annualized return of 18%! Wow, a fantastic return for just a tiny $1000 initial investment without you doing anything else for 30 years! You cannot complain at all, right?

But I’m not happy at all! Let’s see how much better I can do with the 2^nd option. 

Scenario 2: I will keep everything exactly the same except one: invest this $1000 for 30 years with dividend reinvested. The dividend is growing annually at 20%. However, instead of looking for a high stock growth rate, I’d keep the stock price relatively low with an annual growth rate of only 5%, a sharp reduction from the above 15% growth rate. So how much I’d get after 30 years? Over $700K with an annualized return of 24%!! Can you believe that, a slower stock price growth can return 5 times more money?

That’s how the compounding magic can do for you with just a tiny amount of money! No wonder why Einstein called compounding as the World Eighth Wonder! The best part? You don’t need to chase for high growth of stock prices as it’s enormously difficult for most of people. The only thing you need to do is to find quality stock with a long track record of dividend growth and then simply buy when they are cheap and hold it forever with dividend reinvested. Everything will be automatically done without costing you anything else after you bought and set it up in your account. And you can forget about the stock price volatility as the lower prices it goes, the more you’ll gain at the end. This should be the ultimate investment realm: effortless and stress-less and Low Risk with High Return!!