Don't Let Your Retirement Income Get Gobbled Up By Inflation

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One of the most important aspects of retirement planning is to ensure that there will be enough cash flow available throughout the golden years. Besides such traditional sources as Social Security, pensions and 401k or IRA withdrawals you may need to generate funds from individual stocks as well.

The income must keep up with rising prices over the long term, even if the recent increase has been relatively benign. Historically, inflation, as measured by the consumer price index (CPI), has averaged about 4% per year since 1970 but has been trending down since the early 1980's. It is currently at 1.7%. In the future it is possible that the rate will start reverting back to the average again. 


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One way to address the erosion of spending power due to higher prices is to invest in companies that continue to increase their payouts on a regular basis. In addition to the superior dividend growth there is also the strong likelihood of price appreciation. The dividend growers tend to be very well managed, increase earnings at a stable rate year after year and are less affected by economic turmoil because of the markets they operate in and their competitive advantages over potential rivals.

Some of these companies have been increasing their payouts for many decades. While there is no guarantee that the practice will continue in the future, it is nonetheless a fairly good bet that most of them will continue to provide above average returns to shareholders. 

The famed investor Peter Lynch called them stalwarts. The founders of The Motley Fool refer to them as rule makers. Others classify the companies as dividend aristocrats. I wrote about them in the past as classic stocks.

Consumer darlings

Many of the dividend growers come from the consumer sector. 

Johnson & Johnson (NYSE: JNJ) is one company to consider when setting up a retirement income portfolio. The supplier of such diverse offerings as Purell hand sanitizer, Band Aids and Tylenol has increased its payout by a compounded annual rate of 14.2% since 1970. 

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The dividend has gone up though thick and thin and during recessions and market crashes. The increases are likely to continue based upon anticipated earnings and free cash flow growth of about 8% per year and a relatively low payout ratio of 62%. 

Johnson and Johnson has what might be considered a relatively wide economic moat based upon its effective worldwide distribution system that has been in place for many years. Any competitor trying to break into the company's markets would have a lot to overcome.

Another rule maker is Procter & Gamble (NYSE: PG). Pampers, Gillette razors, and Tide laundry detergent have been profitable for the company for many years. Through dividends it has returned a portion of its earnings to shareholders every year since 1890 and has increased the payouts for 54 straight years. Since 1970 the dividend has grown twice as fast as inflation, allowing retirees and others to keep up with those higher food and gasoline costs.

With a strong balance sheet, low payout ratio (50%), a projected pickup in EPS gains going forward and a history of developing innovative products such as the new Tide Pods line the company should be able to keep growing that dividend in the future. 

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Healthy appetite for growth

I'm lovin' it. Another classic company that has been remarkable in the dividend growth arena over time is the fast food giant McDonald's (NYSE: MCD). The company has paid and increased its dividend every year since 1974 at a healthy average annual rate of 21.5%, exceeding the 4.7% yearly change in the CPI by a wide margin. The rate of the dividend increase has slowed somewhat into the 10% to 12% range over the last few years but that still easily bested inflation. 

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A low (54%) payout ratio combined with a projection of greater than 8% growth in EPS and free cash flow in the future indicates that the company will probably keep increasing the dividend. 

High tech growth

A stalwart from the high tech industry to consider is International Business Machines (NYSE: IBM). Over the years, Big Blue has successfully transitioned from a manufacturing-based company, at one time it was the biggest maker of PC's, to one that emphasizes the latest in business-to-business services and software. It is now a big player in "big data."

And in spite of slowing revenue growth the company has been able to increase earnings (and the dividend) in part by reducing the number of shares outstanding by about a third, spending $100 billion in the process. Since 1962 IBM has increased its dividend by an average of 14.2% per year, dwarfing the 4% inflation rate.

Based upon estimated growth of 10% in EPS and free cash flow over the next few years and a minuscule 23% payout ratio IBM should be able to keep providing those quarterly dividend boosts.

No dividend discount here

A dividend aristocrat to consider is Wal-Mart Stores (NYSE: WMT). The low-cost retailer and world's largest private employer (there are now over 2 million people working there) was started by Sam Walton in the 1960's in Bentonville, AK. Its dividend has increased by a whooping 23.9% average per year since 1974 and the growth has accelerated over the last decade and a half. Along with McDonald's it could be considered a dividend paying monster.

Wal-Mart may be hurt in the short term as the result of the settlement of the "fiscal-cliff." The expiration of the pay-roll tax holiday will take some money out of the wallets of lower income taxpayers who comprise a sizable chunk of the company's clientèle. However, expect the company to get through this "problem" and keep shareholders happy every three months since future earnings and free cash flow will grow over 6% to 9% annually according to analyst estimates. A very low payout ratio of 32% provides ample room for dividend increases. 


So as you plan your retirement or are already in it, I urge you to consider long-term dividend growers for the income producing part of your portfolio. The companies that I mentioned above grown their dividends and handily beat consumer price increases year after year. Your retirement check won't be devoured by inflation. 


Mathman6577 owns shares of Wal-Mart Stores, International Business Machines., Johnson & Johnson, McDonald's, and Procter & Gamble. The Motley Fool recommends Johnson & Johnson, McDonald's, and Procter & Gamble. The Motley Fool owns shares of International Business Machines., Johnson & Johnson, and McDonald's. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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