In this episode we take a thoughtful journey through the Dividend Discount Model (DDM), one of the most enduring concepts in investing.

Mark and Shani explore the model’s origins with John Burr Williams, how it compares to the Discounted Cash Flow (DCF) model, and why dividend investing isn’t just about income, but about peace of mind, personal values, and sustainable wealth creation.

Topics covered:

• What the Dividend Discount Model (DDM) actually is

• How DDM compares to DCF and why they’re related

• Why dividends are more than just income, they’re part of a philosophy

• The tension between speculation and investing for yield

• Why investor goals matter more than “perfect” models

You can find the full article from Mark here.

You can find the transcript for the episode below:

Mark LaMonica: Welcome to another episode of Investing Compass. Before we begin, a quick note that information contained in this podcast is general in nature. It does not take into consideration your personal situation, circumstances, or needs.

Shani Jayamanne: So, Mark, I read one of your articles.

LaMonica: Which is surprising.

Jayamanne: I read every article of yours, right, but I was surprised that this one had a poem in it. And what was even more surprising was the subject matter of that poem and it was on dividends. So maybe what you can do to start this podcast is to recite the poem.

LaMonica: Okay. I mean, it’s been a long time since I’ve recited a poem. But I’ll give it a shot. All right, are you ready?

Jayamanne: Have you seen those sessions where they like smash poetry?

LaMonica: No.

Jayamanne: Okay, all right. Well, you do it how you’d like to do it.

LaMonica: Okay, I was just going to read it.

Jayamanne: Okay.

LaMonica: All right. A cow for her milk, a hen for her eggs, and a stock by heck for her dividends, an orchard for fruit, bees for their honey, and stocks besides for their dividends.

Jayamanne: Short and sharp, that’s quite a poem.

LaMonica: Yeah, I want to be clear though. I did not write that poem.

Jayamanne: No.Not an original Mark LaMonica.

LaMonica: No, no. So, I try not to publish at least publicly my poetry. So, this was a poem by a guy named John Burr Williams. Now I don’t know if John Burr Williams wrote any poems to his wife whose name was Edith, by the way, but he had a love affair with dividends.

Jayamanne: Now you love dividends, Mark. Like would you ever consider writing a poem?

LaMonica: I mean, it’s not anything that’s crossed my mind. I don’t know. You write poems to woo somebody. I don’t need to woo dividends, right?

Jayamanne: I feel like you write poems for reasons other than that, but okay.

LaMonica: Okay, maybe we have different views of poetry. But this little journey into poetry does have a point. We’re going to talk about how you value an investment and the role that John Burr Williams played in establishing the methodology of valuing investments.

Jayamanne: So, you wrote an article on this, but today we’re going to expand a bit on the article. But one thing I thought was interesting is the parallels you pointed out between John Burr Williams and Ben Graham.

LaMonica: Yeah, and I thought this was pretty interesting as well, researching this. So like Graham, John Burr Williams worked on Wall Street during the 1920s. And like Graham, Williams became disillusioned with all the speculation going on. And then I think after the crash, he was really looking for something tangible that I guess could act as a ballast against speculation.

Jayamanne: So, some listeners may be familiar with Ben Graham’s story. He tried to professionalize the investment industry, and he did that by writing one of the most famous books in investing called The Intelligent Investor. But what really made Graham so famous was his connection to Warren Buffett, who Graham taught at Columbia University.

LaMonica: Yeah, but actually, John Burr Williams wrote a book as well. And his book actually came out earlier and his book was called The Theory of Investment. And Williams published this book 11 years before The Intelligent Investor. And the basic premise of the book is that the way you value a share is by looking at the future dividends that a company generates. And this is known as the dividend discount model.

Jayamanne: And in previous episodes, we’ve talked about the discounted cash flow model. How does this compare?

LaMonica: Okay, well, it’s all related. So, John Burr Williams came up with the dividend discount model. And then after that, the discounted cash flow model was just a variation. So, the concept is that the value of anything is based on the cash flows that are generated in the future. So those cash flows, of course, must be discounted because a dollar today is worth more than a dollar in the future.

Jayamanne: And as we previously said, this is a simple concept that’s used to value almost everything. But while John Burr Williams used dividends, most people switched this concept to instead using all of the cash flows generated by a company. Mark, what do you think about the differences between dividends and cash flow?

LaMonica: Okay, well, people are likely aware, because we do talk about it on here a fair amount, that a company, of course, generates cash and they have several options with what to spend that cash on. So, they can return it to shareholders, so in the form of dividends, but also share buybacks. They could pay down debt. They could invest in the growth of the business, buy other businesses. And of course, Williams knew this as well. His argument was that all of the non-dividend uses of cash flows were simply a way to generate future dividends.

Jayamanne: And now sitting in 2025, this seems a bit ridiculous, but perhaps you have a different opinion here, Mark, since you seem to be the modern version of John Burr Williams.

LaMonica: Is that a compliment?

Jayamanne: Yeah, I think so.

LaMonica: Okay, that I’m the modern version of some obscure financial commentator?

Jayamanne: I wouldn’t say obscure, but…

LaMonica: Okay, well, not after this episode, right? Well, I think we can go back, and we can look at that poem that we started the episode with. And if we look at the things that Williams compared dividends to – a cow for its milk, or I believe he said her milk, cow for her milk, a hen for her eggs, and to me, this kind of resonates.

Jayamanne: Farmer Mark.

LaMonica: Exactly, exactly.

Jayamanne: Do they have a lot of farms in Connecticut?

LaMonica: I’d say they have some farms in Connecticut. But that’s maybe a topic for a different podcast, Shani. But I think what Williams’ point is, is that we can have assets that can continually provide for us. So just like a cow can continue to give you milk over years. I don’t know how many years. Do you have any – like, how long does a cow – what’s the lifespan? Or at least the lifespan when they give milk?

Jayamanne: No idea, Mark.

LaMonica: Okay.

Jayamanne: I grew up in Western Sydney. Ask me something else. How many kebab shops?

LaMonica: Okay, we’ll get into that. We’ll do a whole farming and – what was that – what’s the rule that you told me about Western Sydney? With the chicken place – the Red Rooster.

Jayamanne: Oh, the Red Rooster line. That was from one of our first episodes, actually. We mentioned the Red Rooster line. But if you draw a line around the Red Roosters and where they are in Sydney, everything west of that, that’s Western Sydney.

LaMonica: Well, there we go. A nice definition. As opposed to our teammate Joseph who said that Balmain is – what did he – far west Sydney?

Jayamanne: Yes.

LaMonica: Which was an interesting one. But anyway, back to our cows. So just like the cow continuing to give milk, your financial assets, of course, can continue to do that as well. And they can support your lifestyle by giving you dividends that you can spend.

Jayamanne: So, it sounds like what this really is about is your goals. If your goal is to generate dividends, then the value in an investment is a dividend.

LaMonica: Yeah, I mean, exactly. But that doesn’t mean there aren’t issues with the dividend discount model. And the first issue is that you can’t use it to value shares that don’t pay dividends. Now, I don’t particularly care about this because I don’t buy shares that don’t pay dividends. But also, it will only work – even if they are paying dividends, it will only work in certain types of companies. And those are generally mature companies that pay out a high percentage of their earnings in dividends. And so that does eliminate a lot of companies I still think can be good for income investors because you do want the ability to grow dividends as well.

Jayamanne: And that is a point that Williams was trying to make. Even if you are interested in income, you need growth in that income. And the only way to do that is to grow earnings. The only way to grow earnings is to invest in the business.

LaMonica: Yeah. And I think, to be fair, he was making this point in a completely different investing era. In the U.S., the average dividend payout rate over the last 98 years has been 56%. At the end of December 2024, the payout rate was just 35%. And so basically all else being equal, the lower the dividend payout rate, the lower the valuation that a dividend discount model will come up with. And I think if we combine that with the fact that in general shares are trading at much higher valuation levels than Williams Day, it means the dividend discount model really isn’t useful anymore.

Jayamanne: And do you think this is why Williams is less relevant compared to Ben Graham?

LaMonica: Well, to be fair, I think Ben Graham had a pretty good salesman, right, with Warren Buffett, who continues to talk about him. But I think if we go back and we look at The Intelligent Investor, and a lot of people make this comment, is that it really isn’t that relevant, like most of it, to the current market environment. And I think what helps is, The Intelligent Investor is constantly updated. And now Ben Graham, of course, died a long time ago, but there are new people that are going in and updating to try to make it more relevant.

Jayamanne: And the other thing that keeps it relevant is not so much the valuation techniques, but his views on investor behavior and some of the investing theory. That includes Mr. Market, which is a personification of the fear and greed that often drives investing behavior. The theory that Graham introduced is the notion of a margin of safety and all of his discussion about investing versus speculating.

LaMonica: Yeah. And I think speculation was also something that Williams talked a lot about in his book. And unsurprisingly, perhaps to him, speculation was not caring about dividends.

Jayamanne: And once again, that’s quite controversial.

LaMonica: Oh, yeah. I mean, absolutely. Williams’ point was that investor that is only hoping for rapid price appreciation was not, in fact, an investor, but a speculator. And I get that. But I also think over the long term, if you’re a long-term investor, capital appreciation is obviously a perfectly rational and great approach to take with investing.

Jayamanne: So, this once again, leads back to the poem.

LaMonica: All roads, Shani, lead to the poem.

Jayamanne: That’s it. So, this is Williams’ idea that there are many things in life whose value is dependent on what you can sustainably and consistently get from them. A stock is only worth what you can get out of it. And you shared some thoughts about this in your article, Mark.

LaMonica: Yeah. I mean, I think the point I was just trying to make is that we become very fixated, of course, on two prices as investors – so the purchase price and the sale price. And I do completely get that. Those are important. But if you’re a long-term investor, there is a lot of time in between those two price points.

William Ton: I’m Will, the producer of Investing Compass, and here are this week’s must-reads on Morningstar.com.au. In Mark’s Unconventional Wisdom column, he looks at the investment theory of mean reversion. Simply, what goes down must come up. A deep exploration shows that this type of strategy can be successful for individual investors. And he calls out five ASX opportunities using this strategy.

The largest asset manager in the world, BlackRock, has declared that the 60-40 portfolio should be rethought. They also believe that the 70-30 portfolio is likely to deliver a 6.5% return going forward. In this week’s Future Focus column, Shani takes a look at what the research says and what investors can realistically do to still achieve their goals.

Over a year has passed since Guzman and Gomez’s ASX debut. Joseph thought it would be a good idea to catch up with Morningstar’s analyst, Johannes Faul. Johannes discussed his view on Guzman’s long-term prospects in Australia, what might be baked into the share price at recent levels, and why Johannes is more cautious on their international prospects than the market.

The recent surge in crypto, especially Bitcoin, has reignited debate over the role of these alternate assets in modern investing. In this week’s Young and Invested, Sim unpacks what is fueling the latest bull run and explores whether crypto deserves a strategic position in long-term portfolios of young investors. These articles and more, they are available in the show notes. Now. let’s get back to Mark and Shani.

Jayamanne: So, we’ve talked about Williams, we’ve talked about Ben. I’m going to quote another great investor, Mark.

LaMonica: Okay.

Jayamanne: It’s you.

LaMonica: Oh, geez.

Jayamanne: So, this is from the article. So, it is in this no man’s land between a purchase and sale that dividends can improve your life. They can bring you security by providing cash to spend without drawing down principal. They can provide dry powder to take advantage of investment opportunities. They allow you to bank returns in the face of an uncertain future.

LaMonica: Yeah, I mean, I don’t really know how to respond to a quote about me. And I will say that we’ve probably done 200 episodes of this. That’s the first time you said something nice about me.

Jayamanne: I always say nice things about you, Mark.

LaMonica: I think most of the readers would disagree. They send me messages being like, it’s okay. Like, yes, she hates you but keep persevering. So, I do get that a lot. But…

Jayamanne: Okay. You’ve got some support.

LaMonica: Yes.

Jayamanne: Okay.

LaMonica: But I think I think the point of that quote is just something we talk about all the time that investing is not some academic exercise. It’s just about trying to make your life better. So, I think at least I’m at the stage of my life where dividends can and do make my life better. And that’s what I’m trying to get out of investing. But there’s many different ways to do that. People just need to figure out the right way to invest for them.

Jayamanne: So, in your article, you ran through a little bit of an example of using a dividend discount model to try and value a share. So, are you suggesting people do that?

LaMonica: There’s a lot of questions.

Jayamanne: Yeah.

LaMonica: A quote, more questions. It’s getting quite aggressive.

Jayamanne: Aggressive?

LaMonica: Yes.

Jayamanne: Like Leigh Sales on budget night.

LaMonica: There you go.

Jayamanne: You don’t get that reference, do you?

LaMonica: Not at all. Who is Leigh Sales?

Jayamanne: She was the person that did the post budget interview on ABC, but she’s retired now.

LaMonica: You know, when I was in Canberra a couple of weeks ago, I took the parliament house tour and they pointed out some tree, and they were like, that’s where the interviews take place.

Jayamanne: Yes, like in the garden in the middle.

LaMonica: Yeah. Exactly. Anyway, back to Shani putting me on the spot here. So, I think one of the really important things, I guess, before answering your question directly is, I want investing to be accessible. And I think there’s a lot of people out there that deliberately make investing really complicated and I guess more complicated than it actually is. And I think a lot of them do that because they benefit financially from that notion. So, if investing is hard, you’re more likely to pay somebody to help you out. And that’s of course great for people that can afford to pay. But the other people that get that message, think investing is not right for them. And they just don’t do it. And if I can speak for you, Shani, we both feel strongly that investing does have the power to transfer lives and everyone can do it.

Jayamanne: Absolutely. And do you know what’s interesting, Mark?

LaMonica: What’s interesting, Shani?

Jayamanne: We wrote a book on that.

LaMonica: That is true. What’s the name of the book?

Jayamanne: Invest Your Way.

LaMonica: There you go. And I think the book is really trying to – I mean, we were trying to come up with a blueprint for people being able to set themselves up for success, creating a plan and investment strategy to achieve goals. And I think with ETFs and funds and passive investing, people who aren’t interested in individual shares have a pathway to achieve their goals.

Jayamanne: And as we’ve talked about before, this is the approach that I take. So, I focus on what I can control and what works for me, given my temperament and personality. So, I don’t go out and I don’t buy individual shares.

LaMonica: Yeah. And I think I think that’s a great approach. So, getting back to the article. That was a long dodge of your question, right?

Jayamanne: Yes.

LaMonica: But getting back to the article is that if you were going to go out there and buy individual shares, you should be a bit thoughtful about the whole thing. Now, I included a very simple dividend discount model in the article, and there is a link to it in the show notes. But the point I made is that I don’t think investors need to create really complicated models like our analysts do.

Jayamanne: Which we should be very clear is difficult to do. Any model like a dividend discount model or a discounted cashflow model is only as good as the inputs. And it’s very difficult to create a detailed model.

LaMonica: Yeah, exactly. So, I think the best thing to spend time on is understanding a company that you’re considering investing in, so understanding the competitive environment it operates in, the overall direction of the industry. And that will have the biggest impact on future earnings growth, which will drive the share price, or in my case, will also drive dividend growth over the long term. So, from a valuation perspective, I try and just make sure the valuation is reasonable. So, in the article and the example that I use in the article, I did a simple dividend discount model because the company I was looking at, American Tower, which I own, I thought this was an appropriate way to go about that. So, in other cases, I might use different techniques.

Jayamanne: And I think that’s probably a good place to leave the episode today, but there’s more information in Mark’s article and look out for the next episode of Investing Compass where you will share a poem about dividends.

LaMonica: Okay. Well, I guess I need to get to work. But thank you guys very much for listening. I appreciate it.

(Disclaimer: Any advice in this podcast is general advice or regulated financial advice under New Zealand law prepared by Morningstar Australasia Proprietary Limited and/or Morningstar Research Limited without reference to your financial objectives, situations or needs. You should consider the advice in light of these matters and any relevant product disclosure statement before making any decision to invest. To obtain advice for your own situation, contact a financial advisor.)

Invest Your Way

A message from Mark and Shani

For the past five years, we’ve released a weekly podcast and written on morningstar.com.au to arm you with the tools to invest successfully. We’ve always strived to provide independent, thoughtful analysis, backed by the work of hundreds of researchers and professionals at Morningstar.

We’ve shared our journeys with you, and you’ve shared back. We’ve listened to what you’re after and created a companion for your investing journey – Invest Your Way. Invest Your Way is a book that focuses on the investor, instead of the investments. It is a guide to successful investing, with actionable insights and practical applications.

The book is currently in presale which is an important time to build momentum. If anyone would like to support this project you can buy the book now. Thanks in advance!

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You’re able to find the transcript of the episode below: