Here is the Adopt A Stock project:
Adopt A Stock Project
Each month, I will adopt one stock in my portfolio. Then, over the course of that month, I will make a contribution to that stock. My initial thoughts were to choose an arbitrary amount like $50 per month. But, to keep things interesting, I’ve decided that I will contribute enough to that stock to purchase at least one share! Regardless of the stock price, the goal will be to purchase at least one share!
Rules For The Adopt A Stock Project
To ensure accountability, I will adhere to the following rules:
1. Maintain the Minimum Contribution to Dividend Portfolio
As of right now, the minimum contribution to dividend portfolio is $500 per month. Every month, I will deposit at least $500 to my M1 Finance account. M1 Finance will then buy stocks according to my target allocation utilizing its dynamic balancing feature. I wrote an M1 Finance review back in 2018 that discusses its dynamic balancing feature.
Over the course of time, I may increase the minimum contribution my dividend portfolio. If I do, I will ensure that this rule is maintained before any stock is adopted for the project.
2. Adopt Only The Most Undervalued Stock
Initially, I had a “no stock left behind” policy where I pledged that if I adopted a stock one month, it would not be eligible for adoption until I’ve adopted all the remaining stocks. I will no longer adhere to that policy.
Instead, I will adhere to the “weakest stock will not be left behind” policy. I think this approach will be better for me in the long run. The determination of whether a stock is the most undervalued is strictly based on math as indicated below.
3. Use A Dollar Amount As The Equalizer
This rule has been the toughest one to come up with. The question I tried answering was, how long should I adopt a stop for. One thought is to adopt a stock for as long as it remains the most undervalued stock in my portfolio. But what if the stock stays the most undervalued for 12 months. That stock may become too over-weighted in my portfolio.
The next thought was to only adopt that stock up to say 100 shares, and make the stock ineligible for adoption until all remaining stocks reach 100 shares. However, it has been pointed out that if I do that, then the stock the stocks with the highest prices are going to cause the portfolio to be too over-weighted.
So, I came up with using a dollar amount as a threshold. And for now, it’s $2000. So, I will invest in the stock until it reaches $2000. Then, once the stock reaches $2000, it will be ineligible for adoption until all remaining stocks reach $2000 as well. Then the process will start over, but the dollar amount will be increased by $1000. So the next time I adopt a stock, I will add $3000 to the highest valued stock in my portfolio as the new threshold.
This rule is subject to change and modified at any time. I’m hoping that the most undervalued stock in my portfolio changes every month or two so that this particular rule won’t be implemented. However, it is designed so that no one stock remains too over-weighted in my portfolio for too long.
How To Choose The Most Undervalued Stock
There are many approaches to this and one of the ones that I was intrigued by and that I wrote about is called the Dividend Yield Theory. One of the articles that have helped me understand this approach was written back in 2014 by Dividend Diplomats entitled, Why I Compare Current Dividend Yield To 5 Year Average. It’s a good read, and that’s the approach I will be taking to picking the most undervalued stock.
Winner: PAAY Formula
Two articles that have really helped me develop my Adopt-A-Stock chart are Seeking Alpha’s Using Average Dividend Yield For Dividend Growth Stock Valuation and the Percent Above Average Yield (PAAY) formula as described by the Part-time Investor in The Most Undervalued and Overvalued Dividend Champions – April 2020.
Basically, what the above resources show is that one metric that can be used to assess whether a stock is overvalued or undervalued is by comparing the current stock yield to the average 5-year dividend yield. You can use any time period you think is appropriate, but the average 5-year dividend yield is what I’ll be using for this project.
Essentially, if the current yield is higher than the average 5-year dividend yield, the stock is said to be undervalued. If the current yield is lower than the average 5-year dividend yield, the stock is said to be overvalued. With the Percent Above Average Yield formula, the Part-time Investor writes that you “take the present yield, subtract the historical average yield, and dividend the result by the historical average yield (and multiple by 100 to turn it into a percent) to come up with the PAAY. The higher the PAAY, the more undervalued the stock may be. The lower the PAAY, the more overvalued it may be.”
The higher the PAAY, the more undervalued the stock may be. The lower the PAAY, the more overvalued it may be.
This is the formula that I will use to adopt a stock. I will adopt the stock that has the highest PAAY according to the above formula. If two or more stocks are equal to the highest PAAY, then they will be adopted for that month equally.
Final Thoughts
I’m not on a mission to rebuild my portfolio as fast as possible and stronger than ever before. It will take time, but the Adopt A Stock project will help in that regard.