In more than 10 years of investing, I've never experienced anything like 2020. The ups, the downs, the twists! Markets have been changing so quickly that thinking about anything beyond this year, and beyond COVID-19, feels like crystal ball gazing.
That goes for our investing too. However we can't let the short-term events of 2020 derail the most important vehicle we have for growing our money over long periods: compounding returns.
Compounding is where earnings (or dividends) get reinvested, and those earnings start to produce their own earnings. Over time, this can turn an ordinary portfolio into spectacular, life changing wealth. So here are some quick tips to get that compounding back on track in 2021.
Reinvest those dividends!
Plenty of companies are paying out great dividends to shareholders. For compounding to happen, we need to put those dividends back to work.
For example, global packaging company Amcor CDI (ASX: AMC) pays a quarterly dividend which currently yields around 4.2% per annum (unfranked). In the 2020 financial year, strong cash flows allowed Amcor to increase its dividend by almost 10%. The company also has a dividend reinvestment plan (DRP) which can allow dividends to be automatically invested back into the company, without brokerage, commission or other transaction costs.
But there's more. In November, the Amcor board of directors approved a $150 million buy-back of ordinary shares. When buy-backs reduce the number of outstanding shares, earnings and dividends are shared between fewer shares, increasing their value.
Rail freight operator, Aurizon Holdings Ltd (ASX: AZJ), also increased its final dividend by 10% after a strong full year result where underlying net profit after tax (NPAT) increased 12%. Like Amcor, Aurizon is planning to buy back $300 million of shares in the 2021 financial year. This is in addition to $400 million of shares repurchased during the 2020 financial year which sweetens the deal for investors. Both companies are currently rated as 'buy' by The Motley Fool's expert dividend analysts.
Consistency is the key…
Compounding is about consistency, repetition and investing regularly over time. If you're good at setting habits, this will be easy. If not, no problem! The trick is to automate your investing as much as possible. Set up automatic payments to regularly deposit money into an investment account and sign up for company dividend reinvestment plans to take the hassle out of the process.
…but don't get complacent with investment risk
We need to give companies time to grow, but that doesn't mean we can be complacent with risk.
If 2020 has taught us anything, it is that to sleep well at night we want to build a resilient, unshakeable portfolio. Owning shares in companies in different industries, that earn revenue across different regions, is a good start. For example, 47% of Amcor's revenue comes from North America and another 24% comes from Western Europe. Aurizon earns almost all of its revenue in Australia, so between the two companies there is an element of diversification.
Finally, if you're managing your own portfolio, it's important to keep up with company news and results. The compounding process is far more effective if earnings and dividends are growing regularly. Combined with a long-term perspective and some good habits, you can focus on leaving 2020 behind and turn 2021 into a great year for compounding your wealth.
