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Is Dividend Investing Dead? The Derek Foster Story

Last week the Toronto Star broke the shocking news that Derek Foster had sold all his equity positions and was sitting in cash as of Feb, 2009. Currently he is selling put options on various stocks to make some money – a strategy he proposed in his third book Money for Nothing.

For those who don’t know who Derek Foster is – he is the self-proclaimed “Canada’s youngest retiree”, leaving the workforce at age 34 after accumulating a good-sized portfolio of dividend stocks.
His first book “Stop Working” was a pretty good read – although his math is suspect, he espoused a somewhat conservative dividend investing strategy and is also a big proponent of frugal living.  One of the keys to his strategy was to buy and hold stocks “forever”.

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To answer the title of the post – I don’t think dividend investing is dead – it’s not even “sleeping”.  Here are some thoughts:

Derek Foster wasn’t solely a dividend investor

Although Derek owned a number of traditional “dividend aristocrat” type stocks – he also owned a lot of income trusts which are far from dividend stocks.  Most of them are mid-cap (or smaller) companies that pay out a lot of return of capital.  He also got into a lot of option trading as well – which is clearly not dividend investing.  I think if he had stayed with more traditional dividend stocks, he might have had more luck staying in the market.

Diversification is good

I wrote a post a while back called “Ignore the last 10 years” which contained probably the best advice I’ve ever given on this blog.  I didn’t listen to my own advice and I doubt anyone else did either. 🙂  The problem with relying on a single investment strategy is that if it doesn’t work then you are screwed.

The last 10 years or so (ie 1997 to 2007) have been fantastic for dividend investors – especially in Canada.  Over the last year or two – a lot of investors piled into dividend stocks because they had done so well in the recent past.  This was in part because of Derek’s first book which another blogger has named the Foster effect.  This is a recipe for disaster as anyone who has invested in the Canadian banks knows.

Yes, their dividends haven’t been cut but it is no fun watching your investment sitting at 30-40% of your purchase price – dividend or no dividend, that is a bad investment.  We Canadian bank owners have been very lucky compared to the US bank owners though – I’m not sure if there is a single US bank remaining that hasn’t gone out of business or is owned by the government.  It is amazing how socialist America is becoming.

Derek didn’t follow the 4% rule.

The 4% rule is a basic guideline for how much money you can safely take out of your investment portfolio.  I don’t have the exact details but from what I understand – he was taking more than 4% which increases the risk that he will run out of money (or more likely – will have to change his strategy at some point).

Derek didn’t have much of a buffer

It was clear from reading his first book and several interviews that Derek knew how to live cheaply.  The problem with living cheaply however is that you don’t have anything to cut if times get tough.  Derek’s situation is hard to analyze because he made some money from his books.  Another big factor is that he is still quite young (late 30’s) so it’s not hard to imagine that he could easily get a job of some sort to help pay the bills which might mean that a big safety buffer is unnecessary.

Conclusion

Derek is doing fine – his strategy might have had a big downturn but he is a pretty smart guy and will do ok.

Dividend investing is still a perfectly valid strategy – but like any strategy you shouldn’t rely on it 100%.

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32 replies on “Is Dividend Investing Dead? The Derek Foster Story”

Thanks for the link to my Foster Effect article Mike.

I think the other main item to bring to readers attention is the amount of risk that Foster is currently participating in with his option strategy. There is no such this as “Money for Nothing” yet he continues to market that slogan as if there was.

Risk should always be the number one concern of every investor regardless of your investing style.

great post! Agree that there is no one strategy that you can depend on 100% all the time, with any strategy you will have to be able to take some not so good times.
As far as Foster’s “money for nothing” strategy I think the concept is highly misleading and any investor who wants to follow his strategy should be very well aware of risks associated with selling puts and option in general.

Derek Foster already has another job — he writes books and peddle them to the public.

Good for him; bad for people following his advice blindly. He writes his books to make money, not out of sheer generosity so that people can make money.

Great post FP. I hope that people who started investing in dividend stocks after reading Derek’s first book don’t follow him and sell now.

The worst thing that could happen in this situation is if stock market tanks from here, and Derek starts selling a newsletter service which includes his famous “call” to get out in February 2009 🙂

I think Derek is a pretty smart guy. His new views confirm what I believe about the market. I thought maybe I was being too pessimistic. 2003 to 2008 WAS overdone as he says, yet people are expecting it to happen again really soon. Actually, 1990 to 2000 was overdone as well. These are unnatural booms that were created by reckless fiscal policy. George Soros called it a super bubble. I know many people are saying they’re being too pessimistic, but Soros is one of the smartest guys anywhere.

No offense to anyone, but all these books about how to get rich doing this or doing that are all a sign of the heavily bullish times. A monkey with a pulse could have banged on a keyboard and made money over the last 7 or 8 years, let alone getting a mortgage or two and seeing some serious appreciation.

Every cycle you see a new breed of “geniuses” pop out of the wood work who are really just outlining what they were in a position to take advantage of during a run up.

Any strategy works for a given period of time and a given set of circumstances. The geniuses are the ones who seem to accurately predict both of those things over a substantial set of time.

I have read the first 2 of DFs books. They were easy to read and informative. With this said, I don’t believe this guy any more and will not read any further of his writings. He has shown beyond a shadow of a doubt, he doesn’t follow what he says he does. His books belong in the “Financial Fiction” section or the 95% off bin of the local dollar store.

But wouldn’t now be the exact right time to get into dividend investing… (given you have capital left to do it with)? Even if companies pull back significantly on dividends (…interesting game theories on who goes first) – won’t there still be excellent yields – according to todays prices?

Bill – if you believe in contrary investing then yes, now is a great time to buy.

The problem is – which companies to buy? Can you diversify enough?

As for yields – it depends on the dividend cut – an 80% cut would result in a poor yield for most bank stocks.

By Post Author

Mike, I wonder if you or Cheap could get an interview with Derek to explain his change of hearts? I’m sure he reads some of the blogs and could clarify his reasoning.

A lot of readers would appreciate that.

Are you there Derek? 🙂

I don’t think Derek has lost his credibility. People are allowed to learn and change their minds over time. He did what he thought was the best based upon the situation. Heaven knows how much the situation did change between his first two books and this past September 2008. So Foster reacted to the changing news. (Whether retrospect will show he made the right decision or not, who knows?). One has to make a decision either way anyway: stay in, get out, increase investments, change strategy, etc. I don’t think Foster “owes” anything to his readers in terms of living by the same strategy for the rest of his life. Heck, his third book reflects his new strategy anyway.

If all people have to refer to is Foster in their financial library, I would advise them to expand their library anyway!:)

Nicolas – great video. I’ve never seen him live. That was a pretty good interview.

MoneyEnergy – fair enough. I personally think Derek is a guy who did well in the markets (for a while) and wrote a book or 2 which did well and what’s wrong with that?

Having said that, his recent move directly contradicts the strategy outlined in his books so that looks a bit funny.

By Post Author

Frog of Finance (above), check your assumptions. Have you never benefited from reading a book? Would you have benefited if that person hadn’t written it? Sheesh. Don’t buy groceries this week, since those people working at the cash are just out there to peddle food and make some money off you!

[…] Investors following the dividend strategy while paying attention to the risks outlined here are likely to experience financial success. Investing is always about managing risks — the returns are up to the market gods. [Note: Four Pillars alluded to some of these points in yesterday’s post but I wasn’t in the mood to rework ….] […]

I watched Foster on CBC’s The Hour the other night and one thing struck me – has not a single journalist asked Foster to show his numbers and prove his accomplishments?

Squawk – yes, many have. He has never been able to show any proof however. This isn’t to say that he’s lying or anything but like a lot of people he doesn’t keep the best records.

Oh, I bet the CRA could make him show proof! But they won’t share the info with anyone.

And I think it’s silly to sell now, when he’s always advised “buy and hold”. If I had money for this sort of thing I’d be buying dividend stocks (not any other kind) right now, not selling them. He sold them low so he can rebuy them higher when the economy rebounds? Isn’t that the opposite of what you’re supposed to do?

I’m still following a buy and hold dividend strategy. I stay with plain-Jane stocks, utilities, telcos, etc. The main stocks I’d avoid right now are American consumer-service-based stocks. Heck, I was thinking about Foster again the other day and recalled that even Jim ROGERS has pulled out of all his equity holdings (except for China) right now…. so Foster’s hardly alone.

Look, Derek Foster was attempting to take advantage of a market inefficiency in the pricing of Canadian dividend-bearing assets. The very nature of these inefficiencies is that they disappear when everyone knows about them and “hops aboard” as @NurseB911 points out.

But this is par for the course, it’s a well-known phenomenon, sometimes it just takes a little while for reality to “snap back into place”.

The long-term truth is, his strategy was eventually doomed to falter. At some point the dividends were going to drop too far or the market was going to over-value dividends. He was going to have a rough year.

But the underlying fundamental truth is that his investment strategy was providing very little actual value to the world around him. He’s basically just collecting and living off someone else’s interest payments.

It’s great that he managed to pull it off, but we can’t all pull it off. It simply doesn’t scale that way. We can’t all live off other people’s sweat, somebody has to do the work.

His new strategy of trading options is equally doomed to un-scalable failure. It may continue to work for him for some time, but options trading lacks a distinct element of “creation” that is required for sustainable long-term growth. 15 million Canadians trading options is not going to somehow improve everyone’s quality of life, it’s just going to shuffle around money like a poker game.

And if there’s something that embodies this financial crisis, it’s that underlying truth: Somebody has to do the work. Work is wealth.

So Foster may have to come “back out” of full retirement, but hey he was already writing books, so it’s not like he was doing “nothing” anyways.

I came to know that Derek Foster sold his investment almost a month later in mid march…I thought this was a contrarian call. Time to buy instead of sell. Buy is what I did.

GatesVP has a good point above about the “money shuffling.” Somewhere somebody has to actually produce something. That’s why it’s misleading to measure GDP by including how much money people “spend” – because that counts the wealth production twice.

Message to Nicolas and others: time to stop worrying about Derek Foster and start to develop your own investing strategy. I’ve read the first two books of his and then, when I’ve heard that he sold his portfolio, when the market started to come back, I realized he has nothing to say to me. I am on my own and doing fine with my dividend stocks. Happy investing everyone!

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