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Bargains abound in the market and investors can still load up on cheap Canadian dividend stocks. While the availability of such stocks has waxed and waned over the years, buying them has been rewarding over the long term.

The Frugal Dividend portfolio provides an example of a portfolio stuffed full of stable dividend payers trading at reasonable prices. It gained an average of 14.4 per cent annually from the end of 1999 to the end of February, 2023. (The returns are based on data from Bloomberg and include dividend reinvestment but not fund fees, commissions, inflation, or other trading frictions.)

The Frugal Dividend portfolio starts with the 300 largest stocks on the Toronto Stock Exchange by market capitalization. It keeps the roughly 200 stocks that pay dividends and narrows in on the 50 with the lowest volatilities over the previous 260 days. The portfolio then invests an equal dollar amount in the 10 stocks with the lowest positive price-to-earnings, or P/E, ratios from the 50 stable dividend payers. The portfolio is rebalanced on a monthly – or annual – basis with both yielding similarly strong results.

You can examine the return history of the Frugal Dividend portfolio, using monthly rebalancing, in the accompanying chart. Compared to the portfolio’s 14.4-per-cent gain this century, the S&P/TSX Composite Index, a reasonable proxy for the overall Canadian stock market, climbed by an average of 6.6 per cent annually over the same period.

Those who don’t like to trade frequently will appreciate that the Frugal Dividend portfolio gained an average of 14.1 per cent annually from the end of 1999 to the end of 2022 when rebalancing (or refreshing) its portfolio once a year. The market index climbed by an average of 6.4 per cent annually over the same period.

Investors run into different problems when they decide to either buy a fixed number of stocks based on a value metric (like low P/E) or when they impose a specific hurdle such as buying stocks with P/Es of less than 10. The first method will fill a portfolio (provided a relatively small number of stocks are selected out of a much larger group) but it may result in owning stocks with higher P/Es than one might desire.

Alternately, investors who demand that their stocks have low ratios in the absolute sense will find there are times when the market doesn’t provide any stocks that pass their strict tests.

The Frugal Dividend portfolio opts buy the 10 stocks with the lowest P/Es from the 50 stable dividend payers it focuses on. In doing so, it has been able to fill its portfolio over the past 23 years but the P/Es of its holdings have varied over the years depending on market conditions.

The situation can be highlighted by taking the complementary approach and forming portfolios based on absolute P/E hurdles. The second chart shows the number of stocks in three portfolios formed by picking stocks with P/E ratios of less than 10, 12, and 15 from the same group of 50 low-volatility stocks used by the Frugal Dividend portfolio.

History shows there were 27 months when none of the 50 stable dividend stocks traded at P/E ratios of less than 10 and there were five months when the portfolio of stocks with P/Es of less than 12 came up empty.

But there were always at least six stocks in the portfolio with ratios of up to 15.

On the other hand, using a particular P/E hurdle can also result in an overabundance of stocks during market declines. For instance, there were 18 stocks with ratios under 10 in early 2009 and 34 with ratios under 15. As a result, the number of stocks in the portfolio expands and contracts as the market goes from famine to feast.

It’s worth pointing out that the second chart can be used to get an idea of the composition of the Frugal Dividend portfolio because it picks the 10 stocks with the lowest P/Es. For instance, there were no stocks with ratios of less than 12 in the summer of 2005 and there were seven with ratios of less than 15. As a result, the portfolio briefly held three stocks with P/Es above 15, which deep-value investors might consider to be too pricey.

The curious might also wonder about the performance of the portfolios with fixed P/E hurdles. It turns out they did pretty well. The below 10-P/E, 12-P/E and 15-P/E portfolios gained an annual average of 15 per cent, 14.7 per cent and 13.2 per cent, respectively, from the end of 1999 to the end of February with monthly rebalancing. (The portfolios held cash, with no interest paid, in the months when they failed to find a stock to invest in.)

Norman Rothery, PhD, CFA, is the founder of

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