by Travis Johnson, Stock Gumshoe | May 21, 2012 3:03 pm
The 801(k) teaser letter for Stansberry and Associates’ 12% Letter was among the most hugely successful email campaigns out there — at least, if the interest of my readers is any indication. That ad generated more questions than any other for a period of about a year …
… but that was back in 2007 and 2008, and it was never heard from again.
Now, with a different editor running the newsletter (it’s Dan Ferris now — it was Tom Dyson back then, before he moved on and launched his Palm Beach Letter with Mark Ford), we’ve got a refreshed and rejuvenated 801(k) on our hands.
I first wrote about this 801(k) plan idea back when the emails began flowing, in July of 2007, and it’s pretty clear that the basic pitch has not changed (though the target companies have — particularly because one of those original companies on the list was a mortgage REIT that went under during the financial crisis).
The basic teaser is that these “801k” plans will make 401(k) plans obsolete, because they can generate dramatically higher returns. The 801(k) just comes from being “twice as good” as the 401(k), though I suppose if they really wanted to double 401(k) that we’d be talking about an 802(w) plan. Not as sexy, eh?
Essentially, the 801(k) is just a mysterious invented name for a DRIP or DSPP. And yes, we’ve seen this basic concept teased many different ways in our five-plus years of public gumshoeing … this same newsletter has also pitched the basic idea using the tease that there’s a “secret website” that “Wall Street” doesn’t want anyone over 55 seeing because it’s full of “black market income.”
DRIP stands for Dividend ReInvestment Plan, DSPP for a Direct Stock Purchase Plan, and the terms are often used interchangeably. In this context, they are direct accounts offered by many individual companies that allow you to buy stock directly from the company on a set schedule (ie, $25 or $100 a month, for example), and to reinvest your dividends automatically.
DRIP/DSPP plans certainly exist and work, and you can open them with many of the best companies in the country. But on the whole, they do not offer anything dramatically different than you would get by buying the same company stock from a discount broker — many people do still recommend them, and they can be a valuable part of some investing strategies, but similar performance is certainly available by using low cost or free brokerage accounts.
And even though the term 801(k) is clearly designed to make you believe that there is some magic tax connection here, these plans have nothing to do with taxes — they are all taxable, to my knowledge, though I’m not a tax advisor (since they’re run through the clearinghouse companies who handle accounts for hundreds of companies, there may well be IRA versions of these accounts). And they have nothing to do with the company match you might get in a 401(k) plan, or with the pre-tax contributions many people can make to a 401(k) or a traditional IRA. As I’m sure is obvious to many of you, there is no section 801(k) in the tax code.
DRIP plans from individual companies offer a slight discount (sometimes — on the other hand, they sometimes also charge fees), dollar cost averaging, partial share purchases, investing discipline, and automatic reinvestment of dividends. This last bit, in particular, was revolutionary in the 1960s when brokerage accounts were uncommon and commissions high.
Today, in my opinion, you can easily do much the same thing through most discount brokers with easier bookkeeping and management, though of course it all depends on your specific circumstances, preferences, account size, and goals.
Essentially, this is how the process works for both a DRIP plan and a standard brokerage-managed dividend reinvestment plan:
For the DRIP/801(k) strategy:
For a more streamlined strategy:
In my opinion, the main valuable thing that DRIP/801k plans offer to small investors that your standard discount broker doesn’t is fractional share purchasing — that’s what allows you to invest a set dollar amount every month without worrying about the exact price of the shares. For McDonald’s, for example, you might be investing $50 a month even though the price is $120 per share one month and $70 per share another month — you just get fractional shares. If you’re using a free or discount broker instead, you have to buy some number of whole shares (though that number can be 1 if you like). Most brokers do allow fractional shares for dividend reinvestment, just not for outright purchases, and you should (and hopefully would) earn dividends on those fractional shares no matter who you buy through.
If you were using a regular discount broker, you would probably want to invest at least a couple hundred dollars at a time to make sure the commissions are a small percentage of your investment — I think keeping commissions at 1-2% is a reasonable goal to shoot for, which with a $5 commission would mean investing at least $250 at a time. Most DSPP/DRIP/801-k plans have lower minimum investments than that, though some do not. Pfizer, for example, requires $500 to set up the account but only $50 for each subsequent investment.
If you really want to “dollar cost average” in to positions, and invest $100 or $300 a month or whatever amount works for you, probably the only easy way to do this and have a diversified portfolio with fractional share positions is with Sharebuilder (or perhaps some competitors, if there are any left). This subsidiary of ING, the big European bank, is essentially a brokerage firm that is set up to handle DRIP plans, though they don’t call it that. This is the only way to easily invest $10 a month into 8 separate companies, for example, and have your dividends reinvested. Sharebuilder cut into their fees a while back so it’s less likely that they’d become onerous unless your account remains very small (their fees are here, fyi), but placing “live” trades or selling your shares is more expensive than the incremental buying that Sharebuilder is known for. Still, if you want the convenience of a DRIP plan that is flexible, and doesn’t require buying shares of individual stock and setting up personal accounts with many different companies, this kind of thing might be worth it for you. And unlike with a DRIP or DSPP company direct plan, Sharebuilder or most discount/free brokers make this kind of thing simple for IRAs as well as for taxable accounts.
And finally — do note that that if you decide to open a DRIP plan or a DSPP plan through an individual company, they generally all have different account minimums, discounts or fees, and general policies.
On the plus side, if you’re the kind of person who is a reckless emotional trading addict and is trying to lock himself into being a buy-and-hold investor, these plans can be great for that because they make it quite a bit more inconvenient to sell your stock — you can’t quickly sell the stock and have it in your account 15 minutes later so you can buy the next hot Chinese IPO. For some people, that’s probably a good thing.
And no, Ferris did not pitch any specific “801k” companies in this particular ad — he mentioned a couple stalwart dividend payers like Paychex (PAYX), which, along with larger competitor ADP (ADP) has been a favorite dividend reinvestment firm for a long time, and past teasers from the 12% letter have generally similarly focused on “blue chip” dividend growth stocks that Ferris refers to as “World Dominators,” firms like Wal-mart (WMT), Coca Cola (KO), Procter and Gamble (PG), Colgate (CL), Johnson & Johnson (JNJ), Intel (INTC), Microsoft (MSFT), McDonald’s (MCD) and the like. Note that I do NOT know if he’s currently or has ever specifically recommended any of these. And that’s reasonable, when you’re building a steady and “safe” portfolio of stocks for dividend reinvestment, stability of earnings and growth of the dividend are the key considerations, you’re not betting on a stock that will double in a year or even in five years, you’re betting on steady compounding growth as each dividend adds to your holdings slightly, and builds on that next dividend slightly until you open that statement a few years later and are pleasantly surprised to see how the holding has grown.
It’s not sexy, but if your grandparents built stock market wealth that’s probably how they did it … and it’s a lot more consistent than picking hot mining or biotech stocks or trading options or staring bleary-eyed at stock charts all day and churning your portfolio. Not that those other options, with their occasional 1,000% gains, aren’t a lot more fun to try at with some of your play money, of course.
And as always, happy investing and thanks for reading … and feel free to share your thoughts on dividend reinvestment, direct stock purchases, Dan Ferris, or anything else along those lines, that’s what our friendly little comment box is for!
P.S. I just noticed that this particular ad also touts another “special report” investment that he’ll share with you when you subscribe — that’s the “Toronto Income Secret,” which we covered here about a year ago (no, you can’t DRIP into that one). So there’s one specific stock you can look at if you like.
P.P.S. If you dont’ feel like clicking through and reading another few pages of my blather, that “Toronto Income Secret” teaser is about Fairfax Financial (FFH in Toronto).
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