When it comes to passive income, I think investors should listen to Warren Buffett’s advice about Olympic diving
At the 2005 Berkshire Hathaway annual shareholder meeting, its head and billionaire investor Warren Buffett said the following:
“One of the interesting things about investment is that there’s no degree of difficulty factor. I mean, if you’re going to go diving in the Olympics and try to win a gold medal, you get paid more, in effect, for certain kinds of dives because they’re more difficult … But in terms of investing, there is no degree of difficulty. If something is staring you right in the face and the easiest decision in the world, the payoff can be huge.”
Buffett, of course, is absolutely right. And this is an important principle for dividend investors to follow.
GSK
GSK‘s (LSE:GSK) a FTSE 100 pharmaceutical company. Two of its key products are Shingrix (a shingles vaccine) and Arexvy (a vaccine for lower respiratory tract disease).
Assessing GSK from an investment perspective involves figuring out how these will fare against competitors like Zostavo (made by Merck) and Abrysvo (a Pfizer treatment).
It also involves considering how well the company will be able to replace these when the patents protecting them expire. That means analysing the pipeline of potential future drugs.
There’s also the potential for future litigation to consider. GSK has just agreed to settle a case concerning its heartburn medication for £1.68bn, so the risk of future expense can’t be ignored.
Having a reasonably accurate view on these issues requires a lot of highly specialist knowledge. It’s not impossible, by any means, but I suspect it’s quite a challenge for a lot of investors.
Sainsbury’s
Sainsbury’s (LSE:SBRY) is the UK’s second-largest supermarket chain. It accounts for around 16% of the UK grocery market.
There are two big questions to consider with Sainsbury’s. The first is whether it can maintain its position and the second is what’s going to happen to the size of the grocery market?
In terms of market share, potential investors need to consider the threat of value chains Aldi and Lidl. These are a challenge, but their growth has largely come at the expense of other supermarkets.
With the size of the market, it’s important to think about what might happen in a recession. Customers could cut back on their spending, causing lower profits across the board.
Unlike GSK, I suspect most UK investors have an idea of the answers to these questions. And for those people, Sainsbury’s is probably an easier business to analyse.
Dividends and difficulties
For a lot of people, GSK might be a more difficult stock to evaluate than Sainsbury‘s, but both come with a 4.5% dividend yield. And this is a great illustration of Buffett’s point.
With each offering similar returns, income investors have nothing to gain from the more complicated business. So it’s probably better to stick to the more straightforward company.
The term ‘subjective’ is often misused, but here it’s actually appropriate. How easy it is to understand a particular stock really is subjective.
An investor based outside the UK with a background in life sciences might genuinely find GSK easier to analyse than Sainsbury’s. And there’s nothing wrong with that.
Someone like this might justifiably focus on the pharmaceutical firm over the supermarket. But Buffett’s strategy of sticking to whatever is easiest is a good one for income investors to follow.
The post When it comes to passive income, I think investors should listen to Warren Buffett’s advice about Olympic diving appeared first on The Motley Fool UK.
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Stephen Wright has positions in Berkshire Hathaway. The Motley Fool UK has recommended GSK and J Sainsbury Plc. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.
