In Part 1, we zoomed out to look at the macro environment and the math behind our growing income.

In Part 2, we zoomed in to look at every single business in Our Portfolio through a simple stoplight framework.

We identified a few Red Tier stocks that it might be time to think about selling.

But selling a stock is only half the battle.

If we are going to free up capital from businesses, we also have to figure out what to do with it.

Remember Opportunity Cost.

We only want to sell a position if we have a better place to put the money.

We’re looking to improve our forward returns by trading into better opportunities with strong pricing power, high Returns on Invested Capital (ROIC), and great capital allocation.

The best place to start might be with the best businesses we already own.

Feeding Our Winners

Peter Lynch called this watering your flowers and cutting your weeds.

Sometimes the best new idea is the one you already know well.

Here are the businesses that we already own that are at the top of my list to add more capital to.

See the Full Portfolio

We’ve got four existing positions that are flowers deserving of more water.

In addition, I’ve identified six new businesses that could be interesting to add to Our Portfolio.

If you want to see what we own, what we’re selling, what we might add to, and what new businesses we might buy, upgrade your subscription right here:

Upgrade to See the Whole Portfolio Here

One Dividend At A Time,

-TJ

Used sources

• Interactive Brokers: Portfolio data and executing all transactions

• Fiscal.ai: Financial data

Disclaimer

As a reader of Compounding Dividends, you agree with our disclaimer. You can read the full disclaimer here.

On Monday, we looked at how the income from Our Portfolio has been compounding and a bit of the macro picture right now.

Today it’s time to look at every single position in Our Portfolio.

We’re going to be skeptical and make sure every company still deserves its spot.

Why? Because as investors, we can’t be complacent.

Businesses change, new competitors show up, and we learn more about each business the longer we own it.

We need to make sure that we’re not holding stocks out of laziness and ignoring real problems in the business.

We need to be willing to kill good ideas for even better ones.

Just listen to Charlie Munger:

This brings us to the most important concept in investing: Opportunity Cost.

Every single dollar we tie up in a good business is a dollar we cannot invest in a great business.

If a company’s expected forward returns are no longer as attractive as when we first bought them, we should consider allocating that capital somewhere else.

We are constantly looking to improve the quality and the future return prospects of Our Portfolio.

To do this objectively, we’ll use a Stoplight Framework:

• 🟢 Green (Strong Conviction): The best businesses we own.

• 🟡 Yellow (Watch Closely): Near-term friction or thesis questions, these are stocks to keep a close eye on.

• 🔴 Red (Consider Trimming/Selling): The opportunity cost might be too high. These are stocks we might think about trimming or selling.

Let’s dive in.

🟢 The Green Tier: Strong Conviction

These are the stocks I worry the least about.

They are executing well, and their moats are still very strong, or even growing.

A great example?

• British American Tobacco ($BTI): Is successfully growing the New Categories, and generating a lot of cash to pay us a 9% dividend yield on our cost basis.

🟡 The Yellow Tier: Watch Closely

These are great businesses facing some near-term friction, or questions about the thesis.

We’re watching them a bit more closely.

Let’s give you an example of one.

Domino’s Pizza ($DPZ):

Domino’s is struggling with macro pressures right now.

The number of orders customers are making continues to grow, but they’re ordering less items in each order.

That’s lowering franchisee profitability, which is leading to slower new store buildouts.

That will slow down growth in the short term, but I still think in the long-run Domino’s is a great setup.

Domino’s has increased its dividend by nearly 32% since we bought it.

Over the past 5 years, it’s grown the dividend by nearly 18% on average.

Domino’s revenue growth has slowed this year, but competitors like Papa John’s are seeing revenue decline.

Domino’s is actively taking market share in a tough environment.

Domino’s business model is still excellent.

When the consumer rebounds (as they always do), Domino’s will come out much stronger on the other side

🔴 The Red Tier: Opportunity Cost & Thesis Problems

These are the positions where the thesis might be shifting, or the opportunity cost is becoming too high.

In fact, most of the businesses are here because the market is now pricing in a lot of their future growth and there might be better opportunities elsewhere.

A great example?

Canadian Natural Resources ($CNQ)

CNQ is a cash machine.

But the stock has run up a lot since the Iran war pushed oil prices up.

This situation won’t last forever.

Another thing I’m thinking about is where Canadian Natural Resources can sell their oil.

Nearly all of the oil Canada exports (96%) goes to the U.S.

They’re constrained on how much they can export elsewhere because they don’t have pipeline capacity to get the oil to ports.

That’s why CNQ is holding off on growing production.

Canadian Natural Resources will have a very hard time selling more oil than they currently do until more pipelines are built.

Pipeline construction has a lot of political hurdles and they almost always take longer to go into operation than planned.

There’s one more thing.

CNQ has paid down their debt to their target level, and management has committed to buying back stock with the cash flows that were going to debt.

If that happens at peak commodity (and CNQ stock) prices, that’s not a great way to allocate capital in my opinion.

It might be better to take the gains from CNQ’s stock price and allocate the capital elsewhere.

See the Rest of Our Portfolio

Knowing what is working and where the opportunity costs are too high is only the first step.

The three stocks above are just a small preview of the analysis we apply to all 18 positions we currently hold.

If you want to see exactly where the rest of our holdings fall, upgrade to Premium today.

When you join, you get instant access to the full Stoplight Portfolio Review.

Even better, you will be on the list for this Saturday’s update where we will reveal:

• The Green Light Buys: Which of our highest-conviction businesses we plan to allocate more capital to right now.

• The Shopping List: Our brand-new watchlist of high-quality businesses we are thinking about adding to the portfolio next.

Upgrade to See the Whole Portfolio Here

One Dividend At A Time,

-TJ

Used sources

• Interactive Brokers: Portfolio data and executing all transactions

• Fiscal.ai: Financial data

Disclaimer

As a reader of Compounding Dividends, you agree with our disclaimer. You can read the full disclaimer here.

I hope you are doing well.

It has been nearly 2 years since we launched the Compounding Dividends portfolio.

It’s time to look through what we’ve built and see if we can make it even better!

The goal was crystal clear from day one:

• Build a stable, growing income stream

• Target $5,000 per month (or $60,000 per year)

Today, let’s take a look at our progress.

Our Scorecard

A quality dividend portfolio should be durable.

I think ours is.

Since launch:

• Zero dividend cuts

• Only one company sold

• One cannibal initiated a brand new dividend

• 11 companies increased their payouts since we bought them

The average holding has raised its dividend by more than 9%.

Over the long term, our companies have grown their dividends by 11.5% per year.

At that rate, it would mean that our income doubles roughly every 6 years.

Here is what the cash generation looks like today:

• $35,080 collected year-to-date

• ~$48,000 projected for the full year

That translates to:

• $4,000 every month

• $923 every week

• $131.50 every single day

All because we own great businesses and let them do the work.

Where Are We Now?

The broader market is currently experiencing a Big Market Delusion.

Tech giants are pouring trillions of dollars into AI infrastructure.

But companies are already starting to limit their AI spending.

Revenue per token is shrinking, and the return on all the spending is unproven.

It looks very similar to past capital cycles, like the telecom buildout during the TMT bubble if you ask me.

At the same time, consumers are pinched by sticky inflation and higher interest rates.

This is why we are not chasing speculative tech investments.

Instead, we want to own necessary businesses with pricing power: essential infrastructure, toll roads, and daily staples.

Furthermore, with short-term Treasuries offering yields above 4%, cash is an attractive asset.

It’s an option on future volatility, and generates income now.

We can afford to be patient.

We do not need to swing at bad pitches or buy overvalued equities just to stay fully invested in stocks.

Some Compounding Math

Let’s look at what the future looks like.

Assuming a conservative 10% dividend growth rate, we will hit our goal of $5,000 per month in less than 3 years.

What if we look 5 years out?

Under conservative assumptions:

• 8.5% annual dividend growth

• 7.0% annual stock price growth

• Reinvesting all dividends

Here is what you get in 5 years:

What about 20 years?

Under the same model, our income grows to $35,387 per month.

Even after accounting for:

• 3% inflation (meaning you need $9,030/month for the same purchasing power)

• A 25% dividend tax drag (pushing the amount needed to ~$12,040/month)

You are still left with over $23,300 in excess cash per month to reinvest.

The math behind quality dividend investing is simply beautiful.

Time for Some Maintenance

To make sure our dividend income machine continues to run smoothly, we cannot afford to be complacent.

As Richard Feynman famously said:

“The first principle is that you must not fool yourself - and you are the easiest person to fool.”

On Wednesday, we’ll take a skeptical look at Our Portfolio.

We will run through every single position using a simple Stoplight Framework (Green, Yellow, Red) and separate our highest conviction ideas from those where the opportunity cost of holding might be too high.

If a company's expected forward returns are no longer attractive, there are better places to deploy our capital.

See you then!

One Dividend At A Time,

-TJ

Used sources

• Interactive Brokers: Portfolio data and executing all transactions

• Fiscal.ai: Financial data

Disclaimer

As a reader of Compounding Dividends, you agree with our disclaimer. You can read the full disclaimer here.

Each month, I’ll give an overview of my favorite stocks of the month.

Let’s dive into this update and show you some of my favorite stocks.

September 2026

The S&P 500 is up +2.3% in the past month.

Investors are fearful today according to the Fear & Greed Index:

Best & Worst Performers

This overview shows you the best and worst performers in our investable universe.

Worst performers

The cheaper we can buy great companies, the better.

The biggest decliner this month? Arbor Realty, losing 38%.

Arbor Realty Trust is a mortgage real estate investment trust (mREIT) that specializes in bridge loans and financing for multifamily and commercial real estate properties.

The stock has sold off due to higherTreasury yields, analyst downgrades, and concerns over distressed multifamily loans and dividend sustainability.

Best Performers

Kohl’s Corporation was this month’s best performer, increasing by 37%.

Kohl’s Corporation is a department store retail chain operating hundreds of locations across the United States alongside an e-commerce platform.

The stock is up after a better-than-feared quarterly earnings report, where the company delivered an earnings beat, expanded gross margins, raised its full-year profit guidance, and announced the resumption of its share repurchase program.

Spotlight: Stryker ($SYK)

How Stryker Makes Money

Stryker is a leader in medical technologies, providing surgical equipment and implants to healthcare facilities.

Stryker provides products across two main segments:

• Orthopaedics and Spine (joint replacements, trauma implants)

• MedSurg and Neurotechnology (surgical equipment, robotics, navigation systems)

Why Stryker deserves to be in the spotlight

Robotic Leadership

Stryker’s Mako robotic-arm assisted surgery platform is a massive growth driver that creates a sticky ecosystem for hospitals. Once surgeons train on Mako, they rarely switch.

Recession Resistance

Healthcare is an ongoing, non-discretionary need, meaning hospitals and patients keep using Stryker’s devices no matter what the economy is doing.

Strategic Acquisitions

Stryker consistently uses its cash flow to acquire high-growth companies, recently expanding its portfolio with acquisitions like care.ai and Vertos Medical. They consistently deliver attractive returns on shareholder’s capital.

Why the stock is down:

Stryker is an incredibly strong business, but because it is an industry leader, the stock is almost always priced for perfection.

It’s traded at an average P/E ratio of 40 over the past decade.

Recently, the market has worried about hospital capital equipment budgets.

There are also worries about whether GLP-1 weight-loss drugs could reduce the long-term need for joint replacements.

That has led to the stock steadily decreasing since the spring.

Stryker stock is down nearly 25% this year.

That’s brought it down from a very expensive valuation to a more reasonable multiple.

October Best Buys

I scanned our Buy-Hold-Sell List for great quality compounders, defensive stalwarts, and dependable dividend payers trading at attractive discounts.

Let’s dive into 5 of our favorite income ideas for this month!

5. Rollins ($ROL)

How does Rollins make money?

Rollins is the parent company of Orkin and a global leader in pest and termite control.

Rollins provides service to two main groups:

• Residential homeowners

• Commercial businesses

Pest control is a highly localized business.

The more customers Rollins has in a neighborhood, the less time technicians spend driving, creating route density and operating leverage.

Customers usually sign long-term, recurring contracts, giving Rollins predictable, stable revenues to keep acquiring businesses and grow its dividend.

4. Lowe’s ($LOW)

How does Lowe’s make money?

Lowe’s is one of the largest home improvement retailers in the world, operating nearly 2,000 stores across North America.

They serve two main customer bases:

• Do-It-Yourself (DIY) retail customers

• Professional contractors (Pros)

Home sales have been declining in the U.S. for two main reasons.

1. The pandemic pushed home prices up

2. Rising interest rates have made borrowing to buy a home more expensive

There were also a lot of big DIY projects completed during the pandemic, and the higher interest rates is making people hold off on them right now.

That’s why Lowe’s saw a big jump in revenue, followed by a pretty flat trend.

However, the U.S. housing stock is steadily aging.

Nearly half of the homes in the U.S. were built before 1980.

That means there’s a massive, deferred backlog of necessary repair and remodel demand that Lowe’s will eventually capitalize on.

They have a long history of returning a lot of capital to shareholders through both dividends and buybacks.

Upgrade for the Top 3

As a paid subscriber, you get immediate access to:

• The full analysis, thesis, and valuation targets for our top 3 picks

• Our complete Buy-Hold-Sell List tracking hundreds of quality compounders

• Full access to our portfolio and real-time trade alerts

Upgrade and See the Top 3 Immediately

One Dividend At A Time,

-TJ

Used sources

• Interactive Brokers: Portfolio data and executing all transactions

• Fiscal.ai: Financial data

Disclaimer

As a reader of Compounding Dividends, you agree with our disclaimer. You can read the full disclaimer here.

Our investable universe currently contains 213 stocks rated ‘buy’.

Last month there were 196.

Let’s look at this month’s Buy-Hold-Sell list update and see what interesting opportunities we can find!

Subscribe now

Buy-Hold-Sell List

The Buy-Hold-Sell List filters our very large Investable Universe.

We look for cheap Dividend Stocks based on three valuation methods:

1. The PEG Ratio

2. Current Yield vs Historical

3. Reverse Dividend Discount Model

Based on this, we give each company a Buy, Hold, or Sell recommendation.

Update September 2026

Some Interesting Stats:

• 213 companies total receive a ‘buy’ rating

  • That’s up from 196 last month

  • And 157 the month before

• 27 moved from ‘hold’ to ‘buy’

• 28 have moved up from ‘sell’ to ‘hold’

• 3 made the jump from ‘sell’ directly to ‘buy’

Recommendation Changes

13 companies went from Buy to Hold due to increasing stock prices.

Here’s a sample of a few:

• Philip Morris International (PM): A global leader in tobacco and smoke-free nicotine products. Shares have gone up because of growth in its smoke-free offerings (ZYN and IQOS)

• Costco Wholesale (COST): A global discount warehouse with industry-leading 90%+ membership renewal rates and high customer loyalty. Shares are up 10% in the past month and Costco trades at nearly 50x earnings.

• Old Dominion Freight Line (ODFL): A best-in-class less-than-truckload (LTL) motor carrier with high operating margins and great capital allocation. Freight volumes are stabilizing, pushing the share price up.

This Month’s Best Buys

While the broader market sits near all-time highs, lots of stocks within it are in in corrections or genuine bear market territory.

That’s why the number of stocks rated ‘buy’ increased by nearly 10% month-over-month.

Behind the paywall for Premium Partners today:

• Undervalued Dividend Growers using the Reverse DDM: Full access to the highest-conviction Dividend Growers trading at steep discounts to intrinsic value, including:

  • An irreplaceable market-structure exchange monopoly that collects non-discretionary tolls on volatility.

  • A master limited partnership throwing off steady, inflation-hedged cash flows insulated from raw commodity prices.

  • An industrial titan whose high-margin, recession-resistant aftermarket network prints cash regardless of macroeconomic cycles.

• The 39 Cannibal Buys: Our complete breakdown of the companies aggressively buying back their own stock at attractive valuations. We spotlight:

  • A mission-critical financial ledger provider trading at just 5.6x earnings with an ~4.9% dividend yield that has retired 3% of its share count annually.

  • A financial data toll-road operating with 50%+ operating margins that institutional funds cannot operate without.

  • A tech-driven credit platform trading at a modest 12.8x earnings that consistently plows surplus capital into retiring undervalued shares.

• 71 High-Yield Companies:We highlight:

  • A European logistics landlord securing 100% inflation-indexed leases with institutional 50/50 balance-sheet protection.

  • A debt-free international airport monopoly converting tourist traffic directly into high-margin commercial cash flow.

  • A non-cyclical broadband provider with local monopolies generating 45%+ operating margins.

• The Complete Buy-Hold-Sell Spreadsheet: Direct download of the entire 870+ stock universe with every PEG ratio, historical yield spread, Reverse DDM calculation, and Buy/Hold/Sell rating updated through today.

Ready to upgrade your dividend compounding?

For less than the cost of a single dinner out each month, you get full access to the complete Buy-Hold-Sell list, our real-money portfolio transactions, and every deep-dive research report.

👉 Upgrade to Premium Here

One Dividend At A Time,

-TJ

Used sources

• Interactive Brokers: Portfolio data and executing all transactions

• Fiscal.ai: Financial data

Disclaimer

As a reader of Compounding Dividends, you agree with our disclaimer. You can read the full disclaimer here.

The series where I teach you 5 things about dividend investing in less than 5 minutes.

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1️⃣ The S&P 500 Has a 63% Payout Ratio

The red line in the image shows the growth of corporate earnings.

The blue line shows the percentage of cash these companies are returning via dividends and buybacks.

That ratio has gone from 80% to 90% down to 63% today.

2️⃣ AI Needs to Become 9% of the Economy

A Columbia/Brookings study estimated that AI needs to become 8.8% of the entire US economy for an adequate return on invested capital.

That is about what the country spends on food.

It’s growing quickly today, but the question is for how long and how big will it get?

Computer prices fell for 50 straight years, and spending grew quickly, at first.

But it plateaued in the 1980s near 1%, and never went any higher.

3️⃣ An Investing Quote

Aswath Damodaran is a professor of finance at NYU Stern, and is considered an authority on corporate valuation.

Damodaran has a big focus on capital allocation, and a simple rule about growth:

4️⃣ Financing the AI Buildout

Here’s the paper referenced in point 2, written by Columbia professor Stijn Van Nieuwerburgh.

With hyperscaler capex growing above operating cash flow in 2026, tech giants are pushing billions in debt into off-balance-sheet SPVs and private credit.

This paper is an important read on the hidden leverage and capital cycles funding today's market.

5️⃣ Example of a Dividend Stock

Kroger is the biggest grocery chain in the United States.

They sell food, prescriptions, and fuel across a nationwide store network, operate private-label food manufacturing and in-store digital advertising.

Key numbers from Fiscal.ai:

• Profit Margin: 0.7%

• Forward PE: 11.7x

• Dividend Yield: 2.3%

• Payout Ratio: 82.4%

Used sources

• Interactive Brokers: Portfolio data and executing all transactions

• Fiscal.ai: Financial data

P.S.

Paid partners get full access to the Compounding Dividends Portfolio, our High Yield Portfolio, and the Community.

Disclaimer

As a reader of Compounding Dividends, you agree with our disclaimer. You can read the full disclaimer here.

We’ve looked at the stressed consumer, the massive CapEx spending, and the physical limits of the power grid.

Today, we’re going to talk about how this all could unwind, and where I actually want to invest.

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Let’s do a quick recap of how we got here.

In Part 1, we looked at the consumer. Wages haven’t kept up with inflation, savings are dropping, and the average stock in the S&P 500 is actually struggling.

In Part 2, we looked at AI CapEx. Tech companies are spending trillions, taking on huge depreciation expenses, and turning into capital-intensive businesses.

In Part 3, we looked at the financing. We saw circular revenue loops, off-balance-sheet debt, and the very real possibility of phantom demand.

In Part 4, we looked at the physical world. Data centers need massive amounts of power and equipment that don’t exist yet, and the bond market is demanding higher yields to fund it all.

In Part 5, we looked at the stock market itself. Passive index funds have pushed the biggest tech names to huge valuations, and the U.S. government has too much debt to step in with a bailout if prices fall.

What Now?

So what if this cycle breaks?

Every massive infrastructure buildout so far has led to overcapacity and a bust.

This one could be different, but I’m not betting on it.

If the AI buildout follows past history, here's what happens:

• Equity gets wiped out: The common stock is the first to go. An oversupply of data centers and chips causes the price of compute to collapse. Companies won’t be able to make their huge interest payments, and will go bankrupt. That’s WorldCom and Global Crossing in 2002.

• Bondholders take over: The bondholders are forced to restructure the debt, often taking pennies on the dollar. In bankruptcy court, the old debt is swapped for new equity. The bondholders become the new owners of a debt-free company.

• The infrastructure stays: This is the most important part. Bankruptcies destroy capital, but they don’t destroy the assets. Nobody ripped up the railroad tracks, and nobody dug up the fiber optic cables in 2002.

After the wave of bankruptcies, mergers, and buyouts, you’ll have new owners of the assets who got them for pennies on the dollar.

They won’t need to charge high prices to earn a return.

The companies that over invest and over build end up funding the infrastructure and losing.

But the next generation of companies reaps the reward.

Without the telecom bankruptcies of 2001, the cheap bandwidth and excess capacity that made Netflix and Amazon Web Services possible wouldn’t have existed.

Lost Decades

When we look at what happens to the broader market, it’s not pretty.

Investment booms or periods where stocks get very expensive are often followed by long periods of zero returns.

These are often referred to as ‘lost decades’, but some have been much longer.

For example, it took 14.5 years for the S&P 500 to get back to where it was at the peak of the 2000 internet boom.

If AI follows history, the data centers will be built, and the grid will be upgraded.

We’ll get a surplus of cheap compute power to run AI.

But the investors funding the physical buildout today at high valuations are unlikely to get the returns they expect from it.

This will likely come as a surprise for many.

The actual returns of the market typically follow the return implied by the CAPE Ratio.

They’ve diverged quite a bit recently, with actual returns going up, and implied returns declining.

Investor Expectations

It’s been a long time since we’ve had one of those long, deep drawdowns in the index.

The peak before the 2008 crash happened in October of 2007.

That means that the only investors still in the market that lived through that have been investing for at least 19 years.

Most investors who started after that have been conditioned to ‘buy the dip’ because the market always bounces back quickly.

COVID was a deep drawdown, but it rebounded very quickly.

2022 was a standard, short bear market.

But even for the investors who have benefited through 2008 or 2000, there's something else that’s different.

In Part 5, I showed you the long-term chart of the S&P 500 to demonstrate the effect of the growing inflows from 401(k) plans.

In the 53 years from Dec. 1927 to Dec. 1980:

• The S&P 500 went from 340 to 525

• A CAGR of 0.82%

From January 1981 to today:

• The S&P 500 went from 497 to 7,801

• A CAGR of 6.71%

But there was another tailwind at work starting around the same time as the 401(k).

Falling interest rates.

Here’s the Fed Funds Rate.

Notice that it peaks in the 1980’s and generally trends downwards until the recent rise.

Also note that it’s at zero the majority of the period from 2008 until rates started going up in 2022.

Warren Buffet has said that interest rates act like gravity on stock valuations.

When rates are high, stocks have to compete with safe, high-yielding bonds.

But as rates fell to zero, then stayed there, that competition disappeared, forcing capital into the stock market and helping to drive equity valuations higher and higher.

That's not normal, and it’s probably not coming back.

Where The Capital Will Go

It’s important to realize that the post 2000 lost decade was only a lost decade for the index.

Under the surface, capital rotated from the busted tech infrastructure into boring, cash-flowing value and quality dividend stocks.

A great way to see this is to compare the performance of the cap-weighted index with the equal-weighted one.

Investors who owned the equal-weight index outperformed for decades after.

The profitable, essential, boring companies had great returns because they were ignored during the bubble, which meant they were cheap.

Those ignored, boring, essential companies are exactly where we want to be.

What I Want to Buy

Unmanipulated Free Cash Flow

Dividends are paid out of free cash flow, not accounting earnings.

We want companies that generate genuine cash from daily operations.

If a company has to issue debt or use off-balance-sheet SPVs to engineer their numbers, the dividend is could be at risk.

Essential Businesses

We want companies that provide necessary products and services.

If the AI bubble bursts or the consumer falls into a recession, businesses and households will immediately cut back on anything they don’t need.

But they will still buy auto parts, repair their homes, feed their pets, and pay for insurance.

We want the boring businesses that sell the absolute necessities.

A Wide, Impenetrable Moat

We want companies protected by deep structural advantages.

Whether it is high switching costs, regulatory barriers, or an entrenched, impossible-to-replicate distribution network, the business must be completely insulated from competitors trying to steal its market share.

Pricing Power

In an environment where inflation is sticky and the consumer is stressed (Part 1), margins come down.

You need companies that can routinely raise prices to offset costs without losing their customers.

Pricing power protects your dividend from inflation.

A Growing, Fully Covered Dividend

We don’t want promises of theoretical revenues in 2035.

That means enough profit to cover the dividend safely today.

We want cold, hard cash deposited into our brokerage accounts every 90 days.

We buy boring businesses with an established track record of paying consistently growing their dividend year after year.

Conclusion

The AI capital cycle will eventually run its course.

The data centers will be built, the debt will be restructured, and the technology will move forward.

But the investors funding it at today’s valuations will likely pay the price.

As dividend investors, we don’t have to play this game at all.

We don’t need to guess when the passive index flows will reverse, or pray for a government bailout.

We don’t need to bet on what a company’s Total Addressable Market might look like in 2035.

We can just opt out.

By focusing on boring, essential businesses with wide moats and strong cash flows, we let the underlying economics do the heavy lifting.

We protect our capital, we avoid the passive index trap, and we sleep well at night getting paid in cold, hard cash.

Thanks for following along with this series.

I hope it helped clarify exactly where we are, and where we might be going next.

One Dividend At A Time

-TJ

Used sources

• Interactive Brokers: Portfolio data and executing all transactions

• Fiscal.ai: Financial data

Disclaimer

As a reader of Compounding Dividends, you agree with our disclaimer. You can read the full disclaimer here.

The obvious question now is why hasn’t the bubble popped yet?

To answer that we have to understand some shifts in market structure.

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We talked about some of this in my series on why Terry Smith is changing his strategy.

A lot of what’s keeping the market up is the constant influx of passive flows.

To understand why they keep coming, we need to look at how Americans save for retirement.

The De Facto National Pension

The most common retirement plan used to be a defined benefit pension.

In that system, your employer promised that if you worked for them for a set amount of time, that they’d send you a set monthly check for the rest of your life after you retire.

The company set aside money and hired a professional firm to invest it for them to fund the checks.

This still exists in some areas, like a lot of government jobs, and it’s still common in education.

For example, the California Public Employees Retirement Plan, or CalPERS is the pension for firefighters, government employees, teachers, and state administrators.

It’s got 2.3 million members and manages more than $651 billion.

But a an obscureprovision buried in the Revenue Act of 1978 intended to limit tax-deferred cash bonuses for corporate executives flipped the pension system on its head.

In 1980, a benefits consultant named Ted Benna figured out a loophole.

He realized the code could be creatively used to let all employees defer parts of their regular salary into a tax-advantaged account, complete with an employer match.

The IRS officially approved his interpretation in 1981.

That section of code was section 401(k).

And that tax loophole is now the foundation of the American retirement system.

Instead of the company investing money for you and handing you a check, they deposit the money in your 401(k) account.

The responsibility for investing it, and the risk that comes along with it is now yours.

401(k) assets are now over $10 Trillion.

Look at the growth of the 401(k), labeled ‘Private Sector DC’ (for defined contribution), and IRAs (Individual Retirement Accounts) in the chart below.

This is the result of hundreds of millions of dollars that are deducted from American paychecks every two weeks and being automatically invested.

All told, Americans have more than $45 trillion in retirement assets.

In 2006, the U.S. government passed a law that allowed companies to automatically enroll their employees into Target Date Funds and passive index funds.

They called theses types of funds Qualified Default Investment Alternatives.

The stock portion of all those is generally the S&P 500.

A look at the long-term chart of the S&P 500 is pretty telling when you know this information.

In the 53 years from Dec. 1927 to Dec. 1980:

• The S&P 500 went from 340 to 525

• A CAGR of 0.82%

From January 1981 to today:

• The S&P 500 went from 497 to 7,801

• A CAGR of 6.71%

The S&P 500 changed from just a collection of stocks to the de facto national pension system.

In fact, the Secure 2.0 Act, passed in 2022 required companies to auto-enroll employees in their 401(k) plans by January 2025.

Employees can still opt out, but participating in the plan is now the default.

Which means that if employees do nothing, they’ll be automatically enrolled in the 401(k) plan, and they’ll likely be automatically investing in a target date fund.

Which usually means the S&P 500, plus some bonds.

Momentum and Concentration

Because the S&P 500 is market cap weighted, the biggest companies receive the vast majority of every passive dollar.

This is a self-reinforcing cycle.

The bigger they get, the more their share of the next 401(k) deductions become.

The top 10 companies used to make up about 20% of the index.

Now they’re double that at 40%.

Even within the top 10 companies we can see the effects of momentum and concentration.

In the chart above, the height of each company’s box shows you its relative size.

In past decades the top 1 or 2 companies were 2x to maybe 3x the size of companies 9 and 10.

Today, NVIDIA is 5.5x bigger than the #10 company AMD.

If you add the market caps of the top 5 companies today, it’s equal to the bottom 434 stocks in the index.

Passive In Reverse

So far, we’ve seen passive investing work to gradually push the index, and the biggest names in it upwards.

But with 40% of the index in AI names, what happens if that narrative cracks?

If those stocks start selling off together, the indexes have to mechanically sell into that downtrend, which will of course accelerate the drop in prices, and create more mechanical index selling.

Historically, at some point value investors and active managers would step in to start buying up cheap securities.

But the money that’s gone into passive funds hasn’t only come from new paycheck deductions.

Investors have left active managers to go passive.

That means active managers don’t have that much money left to step in and buy with.

To be clear, this isn’t a prediction of a crash, a call to sell everything, or anything else.

This is just me trying to figure out where we are, how we got here, and what that could mean going forward.

Could the Government Save Us?

With the index concentrated in a few names, and the S&P 500 functioning as the U.S. pension fund, a drop ins’t just a Wall Street problem.

Consumer confidence could fall even further, voter sentiment would probably turn on the people in office, and it could even trigger a real recession.

High stock prices make people feel wealthier, making them spend more, which drives the economy.

This is called the wealth effect.

Falling stock prices would probably make that trend work in reverse.

With those potential issues on the line, you’d probably think that if the market started to decline that the government would step in.

That’s a reasonable assumption.

For the last 20 years, investors and policymakers have been conditioned to believe that whenever the market suffers a double-digit decline, Washington and the Federal Reserve will immediately step in with monetary easing, corporate debt backstops, or direct stimulus checks.

But all that previous intervention has added trillions of dollars to the Fed’s balance sheet and the U.S. debt.

Today’s environment looks quite a bit different than in years past.

• 2008: U.S. Federal Debt-to-GDP was roughly 65%, inflation was zero, and the Fed had 500 basis points of rate cuts to play with

• 2020: Debt was higher, but interest rates were near zero

Today, the U.S. national debt is over $35 trillion, making the Debt-to-GDP ratio over 120%, or double what it was in 2008.

Interest rates are significantly higher today, meaning the U.S. now pays more than $1 trillion in interest each year.

The government now spends more on interest expenses than on defense or healthcare.

If the government tries another multi-trillion-dollar bailout, or if the central bank tries to step in, long-term bond yields will likely go up even further.

If the AI narrative breaks, and the S&P 500 starts to roll over, policymakers have a difficult decision.

• They could step in to protect stock prices, and risk even higher interest rates and payments

• Or they could protect the bond market and let asset prices fall, risking their jobs and a recession

Conclusion

The AI boom looks fragile to me.

There’s circular financing, increasing amounts of debt, demand could be overstated, there are real, physical constraints to how quickly everything can be built, and there’s growing resistance to data centers.

It could work out, but history says we’ll likely get ahead of ourselves.

When you combine all of this with a stock market that’s dependent on it, a government with less tools to fight a drop in stock prices, and a bond market that’s already nervous about U.S. debt levels, you wind up with a whole lot of places I don’t want to invest.

In the final part, we’ll talk about how I’m thinking about this and where I do want to invest.

See You There

-TJ

Used sources

• Interactive Brokers: Portfolio data and executing all transactions

• Fiscal.ai: Financial data

Disclaimer

As a reader of Compounding Dividends, you agree with our disclaimer. You can read the full disclaimer here.

But my concerns with the AI build out go beyond that.

Even if we assume that the demand is really as high as they claim it is, and even if we assume that the funding is unlimited, there are still issues.

A great example is the Project Jupiter data center in New Mexico.

It’s one of the Project Stargate data centers that’s being developed by Blue Owl Capital with Oracle as a main tenant.

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The data center needs its own 2.45-gigawatt power plant that constantly produces electricity to run.

That power is to come from fuel cells made by Bloom Energy, which run on natural gas.

The gas is to come from a pipeline being built by Energy Transfer, which was to begin service in August.

Notice I said was.

The pipeline is now scheduled to begin service in February of 2027.

The New Mexico State Land Office has rejected Energy Transfer’s attempt to have the pipeline cross a 0.6-mile stretch of state trust land…twice.

They argue that the pipeline would not benefit state lands.

Project Jupiter also doesn’t have the air permits needed to run the fuel cells yet.

That’s led Oracle to send a ‘Force Majeure’ notice to Blue Owl.

This is a legal clause common in development contracts that protect a company if an unforeseeable, uncontrollable event makes it impossible for them to fulfill their end of the deal.

In this case, Oracle is using it to attempt to delay rent payments by up to three years if the data center isn’t online in time.

The longer it takes for the data center to be up and running, the longer it takes to start generating revenue.

And with $18 billion in debt from a consortium of banks, there is a clock running.

But the debt isn’t the only problem.

There are tax break agreements between Doña Ana County and Project Jupiter.

In those agreements, the companies committed to bring a first phase of the facility into operation between October and December of this year, and complete the entire campus and power plant by the third quarter of 2028.

If you’re not going to have a gas pipeline until February 2027, I’m not sure how phase 1 will be running by December 2026.

Companies and analysts can project demand and revenue all they want, but the actual construction of a data center happens in the real world.

Which has its own set of problems.

Physical Constraints

The real constraint on the AI buildout probably isn’t really the chips or memory as Wall Street likes to imply.

U.S. power demand has stayed relatively stable since 2000.

Most of the new power construction has been to replace coal plants that have been retired.

Morgan Stanley thinks it will take about 100 GW of power to run US data centers through 2028.

For perspective, 1 gigawatt can typically power about 750,000 to 1 million average homes.

100 GW is enough capacity to simultaneously power 75 to 100 million homes, or roughly three-quarters of all households in the United States.

That’s a lot of power that will take a long time to develop.

Turbines and Transformers

Data centers can’t get power off the grid, and they can’t wait for the utility companies to develop the power for them.

So they’re trying to provide it themselves.

Even if the data center developers have the chips, and permits, they still need the hardware to generate and use their own power.

GE Vernova is one the big suppliers of this equipment.

In their latest update, they said that orders for gas turbines have nearly doubled compared to last year at this time.

They’re expanding capacity to try to keep up, but how fast they can do that is limited.

• They’re on track to be able to build 24 GW per year by 2028

• And 30 GW by 2030

But remember that Project Jupiter needs nearly 2.5 GW.

Even if GE Vernova can supply 24 GW worth of turbines by 2028, that means they can only supply about 10 data centers the size of Project Jupiter per year.

Siemens is another major supplier of turbines, and in January, they were already sold out until 2028.

They’re expanding capacity too, but are currently only at 22 GW of capacity, with plans to get to ‘>30 GW’ by 2030.

GE Vernova also makes transformers, switch gear, and substation equipment that’s also required to power data centers.

They’re seeing strong growth in orders here too.

Limits in power and equipment are causing a lot of data center projects to be delayed or cancelled.

The majority of data centers aren’t yet even being built.

Only about 27% of data center projects are currently under construction.

The vast majority are still in the planning stages.

We should also consider the fact that most people don’t want to live near a data center.

It’s nearly impossible to get Democrats and Republicans to agree on anything these days.

However, opposition to data centers seems to be one issue that will bring them together.

Local residents forced Project Jupiter to change the power plant from gas turbines to the Bloom Energy fuel cells.

Its air permit has been held up by lawsuits that ended up in the New Mexico Supreme Court.

There still has to be a public hearing about it, where I’m sure there will be more local opposition.

This all points to the possibility that some portion of the data centers planned may take much longer to be built, or never be built at all.

If that ends up being the case, it’s another way that there could be massive oversupply in the AI buildout.

It’s possible that there are chips, memory, and supplies that have already been bought for data centers that will never be built.

Utility Companies Are Pushing Back

Utility companies are seeing huge spikes in requests for power for data centers.

But they’re worried that they’ll spend billions on generation and new transmission lines, only to get stuck with empty data centers.

To protect themselves, and residential ratepayers, they’re starting to demand upfront cash deposits (up to 50% of infrastructure costs in some cases) and 10 to 15 year take or pay contracts.

A good example is American Electric Power in Ohio.

• They received requests to triple the current data center power supply

• They implemented a data center tariff requiring 85% minimum capacity payments on 12 year contracts

• The waiting list dropped by more than 50% when the tariffs required that commitment

Virginia is the data center hub of the world.

They have ordered data centers to pay for all their transmission infrastructure.

In addition, they’ve implemented an additional tax on power to data centers that’s about an additional 10% of their energy costs.

The debt payments combined with the required payments for infrastructure and power (whether the data center is running or not) mean these assets have high fixed costs.

Any delay in revenue (like Oracle’s force majeure notice) creates a big problem.

The Bond Market

Stock investors spend a lot of time thinking about what can go right.

Bond investors already know the best-case scenario, so they spend all their time thinking about what can go wrong.

And between the bonds issued by the hyperscalers, and the bonds issued off balance sheet through their SPVs, there’s a lot of AI debt for bond investors to think about.

The bond market is starting to separate tech companies from other high-quality corporate borrowers, demanding higher interest rates from them.

A Credit Default Swap (CDS) is like an insurance policy on debt.

You pay up front for it, and the CDS pays out if the company defaults.

The market is also increasingly demanding more premium to insure hyperscaler debt.

Apollo chose to compare CDS spreads of hyperscalers with those of banks, because if this were just routine hedging, bank CDS spreads would be rising as well.

They’re not.

You can see the divergence in 2025 as the hyperscalers really started ramping up their debt issuance.

Bond investors aren’t the only people looking for insurance on AI-related debt though.

Non-investment grade companies are issuing debt using NVIDIA chips as collateral.

NVIDIA is now looking to work out deals with insurers to cover the risk in the event that these companies fail and the chips can’t be sold for as much as expected.

Conclusion

Oracle’s force majeure is proof that AI hasn’t eliminated the constraints of construction and permits in the physical world.

At the same time, the bond market is demanding higher bond yields to fund the AI build out.

These are coming together to increase the cost and decrease the speed of data center construction.

It’s also creating expensive fixed liabilities for data centers, while the price of AI falls quickly.

In the next part, we are going to look at how the AI trade is affecting the entire market, and what effects it could have if it unwinds.

One Dividend At A Time

-TJ

Used sources

• Interactive Brokers: Portfolio data and executing all transactions

• Fiscal.ai: Financial data

Disclaimer

As a reader of Compounding Dividends, you agree with our disclaimer. You can read the full disclaimer here.

In part 2 we talked about the AI Capex spending that’s propping up the index.

Today we’re going to talk about how that’s getting paid for.

The Spending is Massive

The AI buildout currently going on is expected to be the biggest infrastructure buildout in history.

Hyperscalers like Google, Meta, Microsoft, and Oracle are expected to spend around $8000 billion this year, and more than a trillion dollars in each of the next few years on AI.

That’s going to eat up all of their free cash flow.

Which means they’ll be turning to debt, and a lot of it.

Circular Financing and Hidden Debt

The headline numbers for AI investment, demand and revenue are huge.

And they’re growing quickly.

Of course, the demand and projected revenues from all this building and demand extend to suppliers, like memory companies for example.

But all of that demand and revenue might not be what it seems.

A lot of this could be the industry financing itself.

Circular Deals

Let’s start with circular financing - this was huge in the 90’s fiber bubble, and it’s making a return today.

NVIDIA is really at the center of this, so let’s show you how it works with an example.

• Step 1: NVIDIA invests money into AI cloud startups, like CoreWeave and give them priority access to chips, plus direct equity investments

• Step 2: The startups use their NVIDIA chips as collateral to secure bank loans

• Step 3: The startups use that freshly borrowed cash to buy more chips from NVIDIA

NVIDIA records these purchases as new, high-margin sales, creating an artificial revenue loop where the money is essentially just recycling through its own ecosystem.

Or we can look at the relationship between Microsoft and OpenAI.

• Step 1: Microsoft invests billions of dollars into OpenAI, primarily in the form of ‘cloud credits’

• Step 2: OpenAI uses that investment to commit $250 billion to Microsoft’s Azure cloud servers

Microsoft then reports massive cloud growth, but they are essentially financing their own demand.

This circular transfer is so large that OpenAI now accounts for 45% of Microsoft’s entire commercial cloud backlog.

Hidden Debt

Then there’s the debt that’s off balance sheet.

The hyperscalers are estimated to already have more than $1 trillion in debt that doesn’t show up on their balance sheets.

This is primarily through Special Purpose Vehicles, or SPVs.

Here’s an example of how they work:

• Step 1: Meta partners with private credit firms (like Blue Owl) to build a $30 billion AI data center, but Meta only takes a 20% ownership stake in the new joint venture.

• Step 2: Because Meta owns a minority stake, the $27.3 billion in debt used to build the data center is legally kept off Meta’s balance sheet.

• Step 3: Meta signs a long-term triple-net lease to use the data center, making it responsible for all the costs associated with operation and upkeep

• Step 4: Meta’s rent payments go to service the debt on Blue Owl’s balance sheet

• Step 5: Meta also guarantees to cover the losses if the property’s value drops.

The result of all of this is that Meta takes all the actual financial risk for the debt, but hides the liability from investors.

Historical fans of these off-balance-sheet SPVs include Enron, Lehman Brothers, and First Brands.

False Demand?

There’s a phenomenon in supply chain management called the bullwhip effect.

It describes the phenomenon where small changes in demand get amplified as they go up the supply chain.

We lived through this during COVID.

In 2020, demand for Peloton bikes increased by something like 300%.

Shipping from Asia was delayed, and Peloton panicked.

They over-ordered massive amounts of inventory and even committed $400 million to build a new U.S. factory just to secure supply.

But by the time the supply chain caught up, gyms had reopened.

The ‘permanent’ demand vanished, leaving Peloton with excess bikes.

Of course they didn’t end up building the U.S. factory either.

This dynamic could explain exactly why the demand for things like chips, memory, and data centers look so strong today.

Right now, everyone trying to build out AI knows that everything is in short supply.

To make sure they get what they need, they’re double ordering and hoarding.

Customers are ordering more than they need, so manufacturers are making more, which puts even more strain on their suppliers.

That leads to projections of compute shortages into 2029, which of course leads to more over-ordering.

We also saw this exact same thing in 2000.

Back then, telecom companies couldn’t get Cisco routers and switches fast enough.

To guarantee supply, they placed duplicate orders, creating “phantom” order books that made demand look way higher than it really was.

The equipment makers stocks shot up because of this huge backlog.

But the moment manufacturing caught up and delivery lead times started to come down, companies realized they didn’t need to hoard anymore.

The cancellations cascaded down the supply chain, and In 2001 Cisco took a $2.25 billion inventory charge.

Conclusion

When a market is driven by FOMO (Fear Of Missing Out) and not actual demand, the order backlog can be overstated.

The minute chip production catches up, or the hyperscalers realize they’ve already got enough chips, the excess demand will go away.

There’s also the possibility that the hyperscalers wind up with more chips than they can use based on some other constraint.

Like say… power.

In Part 4, we’ll look at the physical constraints that could limit the speed of the AI buildout, and the problems that a slowdown could cause.

See You There

-TJ

Used sources

• Interactive Brokers: Portfolio data and executing all transactions

• Fiscal.ai: Financial data

Disclaimer

As a reader of Compounding Dividends, you agree with our disclaimer. You can read the full disclaimer here.

But that when you look under the surface, the average individual stock is doing much more worse than the overall index.

More than 1/2 of the stocks within the S&P 500 are down 20% or more from their highs.

The indexes are being propped up by the AI buildout.

The spending is massive.

The Wall Street Journal just published an article about the spending on AI.

Between 2025 and 2032, we’re projected to spend nearly 3.7% of GDP on AI.

• U.S. GDP is about $32 trillion

• Over 8 years, that’s about $256 trillion

  • 3.7% of that is $9.5 trillion on AI

That squares pretty well with Goldman Sachs’ estimates:

We have seen this kind of thing before.

In the late 1990’s the internet was changing how people worked, shopped, communicated, and more.

The growth of internet users was astounding.

This rapid growth, and the obvious growth that would come in the future also required a massive infrastructure build out.

Telecom companies like WorldCom, Global Crossing, and Qwest laid hundreds of thousands of miles of fiber.

Equipment makers like Cisco and Lucent couldn’t keep up with the demand for switches and routers.

They ended up massively overbuilding their networks.

By 2001, 5% or less of the fiber buried in the ground was being used.

Companies like Global Crossing and Worldcom went bankrupt.

Companies like Microsoft and Cisco took a decade or more for their stock prices to recover.

This pattern has played out in every infrastructure buildout for a new ‘disruptive’ technology.

Massive capital investment leads to overinvestment, overcapacity, and an eventual bust.

So that’s the base rate for AI - lots of spending, successful technology, losses for investors.

I think there is an important difference between today’s AI buildout and the historical parallels like the internet and railroads.

Asset Life

Railroad tracks can last 50 or 100 years.

The fiber laid in the 90’s laid in the ground and the extra capacity made things like streaming your favorite movie on Netflix possible.

The infrastructure being built out to support AI won’t last that long.

The outer shell of the data centers will be around a few decades.

But what about what’s inside?

The cooling systems, power connections, etc. are all built for a specific generation of Nvidia chips.

And those chips only last so long - we’ll talk about the debate on exactly how long later.

But each generation is more powerful and more efficient.

These companies won’t be able to just install the current generation of chips, and leave them in place for 20 years.

AI won’t just require a lot of capital to build out the infrastructure.

Once it’s in place, there will be a treadmill of maintenance capex that won’t go away.

Why would companies want to jump on that treadmill?

The Big Market Delusion

Aswath Damodaran is a Professor of Finance at NYU’s Stern School of Business and is widely known across the investment world as the “Dean of Valuation”.

He’s considered one of the top global experts on corporate finance, understanding market pricing, and valuing businesses.

He’s got a great framework to explain what’s going on.

He calls it the Big Market Delusion.

Transformative new markets like commercial aviation, e-commerce in 1999, online advertising in 2015, or artificial intelligence today are great candidates for this.

Everyone can see the potential, and everyone realizes the market will be gigantic.

They’re usually right - the internet and commercial aviation did change the world, e-commerce really did change how we shop.

That’s not where the delusion lies, it’s in the math of the investment returns.

Here’s what happens:

• A Huge MarketAppears: Entrepreneurs and CEOs see a multi-trillion-dollar total addressable market

• Everyone Thinks They’ll Win: Microsoft, Alphabet, Meta, Amazon, OpenAI, and dozens of venture-backed startups raise and deploy billions

• Valuations Price in Monopoly Outcomes: Wall Street assumes each company will capture a dominant share of the market at high operating margins

When you look at each company, the picture looks like this:

But what’s really happening is this:

The individual story for each company sounds rational.

But collectively, they’re impossible - you can’t have 4 or 5 companies that each have 40% of the market.

So here’s what ends up happening:

• Companies get overvalued based on the big market - that lets them raise a lot of capital

• Excess capital leads to overinvestment - which creates overcapacity and competition

• That leads to lower prices and lower margins

The Big Market Delusion makes investors confuse a great technology with a great investment.

We’re already seeing the cost of AI models dropping very quickly.

If we look at analysts expectations, we also see evidence of the Big Market Delusion.

Analysts covering the tech industry expect Big Tech’s cash flow to double to $2.4 trillion by 2028.

Ok, great, who is going to pay for it?

Presumably all that cash flow will come from those tech companies selling their tools to the rest of the economy.

Analysts covering those other industries are forecasting very slow, modest cash growth for their companies.

Both groups can’t be right.

Either the rest of the economy will magically find an extra $1.2 trillion to hand over to Big Tech, or the tech analysts are way too optimistic.

Depreciation and Return on Capital

The big market is clearly there for AI.

The flood of capital and huge amounts of spending are there.

Falling prices are clearly there.

What’s it going to take for AI to avoid destroying investors capital like so many other infrastructure build outs did?

To be frank, a whole lot of revenue.

Goldman Sachs thinks it would take $300 billion in AI revenue to breakeven on the 2026 and 2027 capex.

That’s just to not lose money.

To earn a reasonable return will take even more.

One huge problem that’s coming for the hyperscalers is depreciation.

All those chips, servers, and data centers will end up on the balance sheet and will need to be depreciated through the income statement.

Christopher Bloomstran did some math that shows what could be coming:

• If cumulative spending hits $2.5 trillion by 2030, an 8-year blended depreciation schedule needs over $300 billion in annual non-cash depreciation expense alone

• Generating an ordinary 15% return on capital at a healthy 20% net margin requires $1.875 trillion in incremental AI revenues by 2030

To put $1.875 trillion in perspective, that’s six Microsofts.

The hyperscalers have been extending their server and GPU useful lives over the past few years.

Here’s a summary table of the changes, and the effect on profits:

The companies argue that technological advancements have made this equipment useful for longer.

Maybe that’s true, but I find it hard to believe that Nvidia rolling out a new, faster, better chip each year makes the old chips, servers and equipment useful for longer.

Of course, these changes also have the effect of kicking the depreciation can down the road just a bit further.

Notable in the table is that Amazon extended the useful life of servers from 5 years to 6 in 2024, then pulled a subset of them back to 5 years the very next year.

A Different Business

For year, companies like Google, Meta, and Microsoft were asset-light cash cows.

But AI capex is ramping as a percentage of their revenue.

They’re expected to spend nearly all of their Free Cash Flow this year, and be FCF negative in 2027.

These are also companies that have historically spent heavily on repurchasing their own shares.

With all the FCF going towards AI CapEx, they won’t be able to do that anymore.

These companies also all pay a dividend - Google and Meta only initiated theirs in the past few years, but Microsoft is a Dividend Aristocrat.

Think about what ‘winning’ this race means - you get to go from a low CapEx and high FCF margin business to a business that likely has lower margins and requires lots of maintenance CapEx.

But they all believe that AI is an existential threat to their own business models and that they have to be the ones to build it out to survive.

The Prisoner’s Dilemma

The AI race is the classic prisoner’s dilemma in corporate form.

The typical framing goes like this: two guilty criminals are interrogated in separate rooms:

• If both stay silent, they each get a 1-year sentence.

• If one betrays the other and the other stays silent, the betrayer goes free while the silent one gets 20 years.

• If both betray each other, they each get 5 years.

Because neither wants to risk the 20-year sentence, the most rational individual choice is to betray the other.

But because both make this ‘rational’ choice, they both receive 5 years, a much worse collective outcome than if they had just trusted each other and stayed silent.

AI is the exact same thing.

If nobody invests in AI, then the companies go on making lots of money on fat margins.

But if one company invests in AI and the other doesn’t the risk for not investing is obsolescence.

When the hyperscalers all invest in AI and compete, it creates a worse business for everyone.

Conclusion

Big Tech is trapped.

They’re in a race where the only way to “win” is to burn their own free cash flow.

We’re watching capital-light cash machines turn into capital-intensive industrials.

There’s an obvious question this should raise.

If these companies are going to spend all of their free cash flow plus more on infrastructure over the next few years where is the money actually coming from?

In Part 3, we’ll look at how the AI buildout is being financed.

See you in Part 3

-TJ

Used sources

• Interactive Brokers: Portfolio data and executing all transactions

• Fiscal.ai: Financial data

Disclaimer

As a reader of Compounding Dividends, you agree with our disclaimer. You can read the full disclaimer here.

It’s too complex and there are too many moving parts.

Trying to predict inflation, what the Fed will do at their next meeting, or where the S&P 500 will close out the year is usually a fool’s errand.

It’s almost always better to spend you time looking at businesses, and understanding the moat, the cash flows, and how management allocates that capital.

Notice that I said almost always.

Every once in a while, things have shifted around enough that it’s worth taking a look at the macro.

I think we’re at one of those points right now.

There are big trends and shifts happening under the surface of the headline indices that I think will be important for returns going forward.

I’ve been thinking about them quite a bit, so I think it’s worth me writing some articles about them.

It will help me clarify my own thinking and it will help you understand where I’m coming from.

To be clear, I’m not about to make any predictions, or tell you what’s going to happen.

As Howard Marks says:

Over the next few articles, we are going to figure out exactly where we are.

And to do that, we have to start by looking away from Wall Street, and paying attention to what the actual consumer is doing on Main Street.

Let’s start broad.

Before the pandemic, consumers were saving somewhere between 5% and 8% of their income.

Consumer loan balances rose from $720 Billion to $850 Billion over about 3 years.

That’s about 5.7% growth per year.

Since the pandemic, savings rates have barely gone above 5% and are now at 3%.

Loan balances were back at about $800 billion in 2022 and are now about $1.1 trillion.

That’s about an 8.3% growth per year.

So consumers are saving less and borrowing more.

Clearly inflation is an issue.

Wages haven’t kept up.

They don’t feel good about it.

The narrative is that the economy is K-shaped.

That means that the economy splits into two parts, with one part improving, and the other declining.

• The Upper Arm Improves: This includes wealthier households, asset owners, and high-margin or tech-driven industries, their investments, home equity, and wages rise, improving their situations

• The Lower Arm Gets Worse: Lower-income workers, service employees, and blue-collar households fall further behind, because of wage stagnation, inflation, depleted savings, and rising debt

That’s been true, with companies like Ferrari growing strongly:

While companies that cater to lower-income consumers like McDonald’s struggling to grow:

But companies are seeing warning signs that the pressure on consumers is moving up the income distribution.

Home Depot’s CFO Richard McPhail said that consumers are more pressured, and that there’s no signs of it improving.

People who shop at Home Depot either own a home, or have been renting where they live long enough to be willing to put some work into it.

The median household income for Home Depot customers is around $80,000, well above the national median of $68,000.

Dollar General is also seeing pressure on higher income consumers:

Here’s some quotes from Dollar General’s most recent call.

So it seems that the pressure is moving up the income chain.

But you wouldn’t know it from looking at indices like the S&P 500.

It’s got a total return of almost 88% over the past three years.

Under the surface, the index is being pushed up by fewer and fewer stocks.

Another measure is beta.

S&P 500 now has the highest number of stocks with a negative beta in history.

This means that individual stocks are doing the opposite of what the index is doing at the highest level ever seen.

What’s going on?

The AI buildout is propping up the index.

Goldman Sachs has said they estimate that hyperscaler capex has driven roughly half of the S&P 500’s EPS growth this year.

If we broaden our view out to everything AI-related, it’s pretty clearly driving more than half.

We’ll talk about all this spending and what it means in the next parts of the series.

See You Then,

-TJ

Used sources

• Interactive Brokers: Portfolio data and executing all transactions

• Fiscal.ai: Financial data

Disclaimer

As a reader of Compounding Dividends, you agree with our disclaimer. You can read the full disclaimer here.

The goal when we launched it was to build a reliable income stream, with a $5,000 per month (or $60,000 per year) target.

Let’s see how close we are to that goal.

Since the launch of the portfolio, we have:

• Zero dividend cuts

• Sold one company

• Had a cannibal stock initiate a dividend

• Had 11 companies increase their dividends since we bought them

The average company has increased its dividend by more than 9%!

If this were to continue, our income would double in about 8 years.

If we look over a longer period, the companies in Our Portfolio have increased their dividends by 11.5% per year.

At that rate, it takes just over 6 years for our income to double.

So far this year we’ve received $35,080 in dividends.

We’re projected to receive nearly $48,000 in dividends this year.

That’s:

• Almost $4,000 per month

• $923 every week

• $131.50 per day

All for sitting back and letting our companies do the work.

Dividend Growth

If we assume an average dividend increase of 10%, it will take less than 3 years to hit my goal of $5,000 per month or $60,000 per year in dividends.

If we’re conservative and assume:

• 8.5% growth in dividends per year

• 7% growth in stock price per year

• That we reinvest our dividends

Then in 5 years, we’ll have:

• $64,462.36 per year in dividends

• $5,371.86 per month

• A portfolio value of $1,698,530

Here’s how the growth would look.

But what if you have more than 5 years?

What if you still have 20 years?

Let’s see how that would look:

$35,387 a month seems like plenty to live on.

But we can’t forget about inflation - let’s assume it stays at 3%.

At that rate, to have $5,000 in today’s spending power in 20 years, you’d need $9,030 per month.

We’re still covered!

A common critique of dividend investing is taxes.

Remember, this is a retirement scenario - you’ll need money to spend, so it’s either dividend income, or you have to sell stocks.

Fortunately here in the U.S., qualified dividends and long term capital gains are taxed at the same rate.

Right now, the highest rate is 20%.

But we all know the U.S. Government needs more money, so let’s assume 25% just to be safe.

We’ll need more than $9,030 a month to cover that bill.

That puts us at about $12,000 per month including the tax bill.

W still have about $23,387.22 to figure out what to do with.

Reinvest it of course!

Over time, reinvesting your dividends makes a huge difference!

Now let’s dive in to the portfolio in more detail!

Our Portfolio

Of course I can’t show you everything (but I can if you upgrade to a paid subscription).

Click Here For Instant Access

But I will share some…

Domino’s Pizza is the company that’s increased its dividend the most, growing by nearly 32%!

That means our income from Domino’s is nearly 1/3 higher today than it was when we bought it to start the Compounding Dividends Portfolio.

But the stock price is down by about the same amount!

Domino’s is struggling with slower growth due to inflation and how stretched consumers are right now.

But they’re still growing.

Here’s the same chart for Papa John’s:

The main takeaway?

• Domino’s Pizza is growing revenue by about 5% this year

• Papa John’s revenue is declining by about 5% of this year

That means that Domino’s is taking market share in this tough environment.

When things rebound (as they always do) Domino’s Pizza will come out stronger on the other side!

But Domino’s isn’t just a dividend grower.

It’s a Cannibal stock as well.

So management is continuing to buy back shares at these low valuations.

This is an amazing setup for long-term investors like us!

Right now, I think Mr. Market is overlooking a lot of opportunities like Domino’s Pizza.

He’s got a bad case of short-termism.

High quality dividend growers like Domino’s require too much patience, so investors are selling them to chase momentum in the AI buildout.

A 486% spike in something like Micron over the past year gets attention.

But look at the 20-year chart for Micron:

That’s an awfully big spike at the end - what if we cut off the last year?

It’s quite a bit less exciting…

84% of Micron’s total returns in the past 20 years have come in the last 12 months.

These gains are all AI-driven.

That feels very unsustainable to me.

Now compare Micron’s returns from 2006 through 2025 to Domino’s Pizza:

Pizza beats chips the vast majority of the time.

I think this small example frames up the strange split in the markets right now.

• There’s an AI Capex story where trillions of dollars are going into chips and infrastructure for AI companies that are losing billions of dollars

• Then there’s the real economy where consumers are tapped out, budgets are tight, and discretionary spending is softening

Howard Marks says that as investors we can’t know where we’re going, but we sure better know where we are.

On Monday we’ll start a series trying to figure out the answer to that very question.

I’m already 5,000+ words in, and I’m not done yet.

See you Monday morning.

-TJ

Used sources

• Interactive Brokers: Portfolio data and executing all transactions

• Fiscal.ai: Financial data

Disclaimer

As a reader of Compounding Dividends, you agree with our disclaimer. You can read the full disclaimer here.

Today we’ll look at Buffett’s 7 Deadly Sins of Investing.

And more importantly, learn how to avoid them!

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1. Treating the Stock Market Like a Casino

When markets get greedy, people start betting on momentum and stock prices.

They forget that a share of stock is partial ownership of a real business with real products and real cash moving in and out the door.

During the height of the dot-com bubble in the late 1990s, investors mocked Buffett for missing out on the ‘easy money’ in tech stocks.

But when the bubble burst, those ‘innovative’ companies crashed or went bankrupt.

Meanwhile, Buffett was collecting cash flows from boring, real-world businesses like See’s Candies and Coca-Cola.

“Games are won by players who focus on the playing field—not by those looking at the scoreboard.” — Warren Buffett

2. “Sucking Your Thumb”

Buffett calls this the sin of omission.

You find a wonderful business, but you hesitate.

The hardest part is that it’s easy to convince yourself that you’re being disciplined.

• You’re waiting for a better price

• You want to wait a few more days to see how the bad news develops

• You need to read a few more earnings reports

Then the buying window closes.

You do need to be patient, and you do need to do your homework, but the best times to buy great businesses are usually the least comfortable.

If you’re confident in your research and the valuation makes sense, you have to pull the trigger.

During the 2018 Annual Meeting, Buffett talked about admiring Amazon for many years.

“Obviously, I should have bought it a long time ago.”

He said that he knew the business could be extraordinary, but he was too hesitant to take the risk.

We don't know when Buffett started looking at Amazon, but over the last 10 years, it’s returned more than 600%.

It was a $286 billion company back then, so by not buying 2% of the company, Berkshire missed out on $36 billion in gains.

“My ‘thumb-sucking’ has cost Berkshire roughly $1 billion... We have no excuses.”

— Warren Buffett

3. Buying Businesses You Don’t Understand

You do not need to have an opinion on every stock in the market.

In fact, trying to have one is a terrible idea.

You just need to know a handful of great businesses well:

• How they make money

• Why their dividend is safe

• What the biggest risks are

Figure out what your Circle of Competence is, and stay well within it.

It will start out small, but it can grow.

For decades, Buffett completely avoided technology stocks because he said that he couldn’t predict their long-term competitive landscape.

But in 2016 that he took a massive position in Apple.

What changed?

He realized Apple wasn’t just a hardware manufacturer anymore.

The iPhone had turned it into a consumer brand with switching costs from the Apple ecosystem.

That was squarely in his circle, and he bought.

“What an investor needs is the ability to correctly evaluate selected businesses... Risk comes from not knowing what you’re doing.” — Warren Buffett

4. Overpaying (Even for a Wonderful Business)

It’s dangerous to think that the goal is buy great businesses and ignore the price.

Paying too much, even for a great business with a wide moat can still lead to disappointing investment returns.

Buffett clearly considers Coca-Cola a wonderful business.

He’s held it since the late 1980’s.

But in 1998, Coke got very expensive.

Investors who bought at the peak, had to wait until 2012 to break even , and had a short window in 2013 to sell for some gain.

“For the investor, a too-high purchase price for the stock of an excellent company can undo the effects of a subsequent decade of favorable business developments.” — Warren Buffett

5. Letting Your Emotions Drive

Having a high IQ doesn’t mean you’ll be a great investor.

So if you don’t need a high IQ, what do you need?

The right temperament.

The market is often driven by emotions, moving from fear to greed.

That makes most investors buy when stocks are expensive, and sell when they’re cheap and everyone is panicking.

During the 2008 crisis Wall Street was in a panic.

Buffett used the fear to buy $5 billion in preferred shares of Goldman Sachs, yielding a 10% dividend.

Goldman had the right to buy back those preferred shares.

Which they did in March 2011, paying Buffett $5.64 billion.

That included:

• The original $5 billion in principal

• A $500 million bonus for early repayment

• $140 million in dividends Buffett was due at the time

But Buffett was also collecting dividends while he held the shares, amounting to roughly $1.1 billion.

So Buffett made about $1.75 billion in 3 years, a 35% return.

“We simply attempt to be fearful when others are greedy and to be greedy only when others are fearful.” — Warren Buffett

6. Using Leverage

Margin creates way more risk.

If you own a high-quality dividend payer outright and its share price drops 50%, you can just collect your dividends while you wait it out.

But if you bought it on margin, a margin call could force you to sell at the worst possible time.

Buffett hasn’t lost significant amounts using leverage, but he does have a favorite example.

Long-Term Capital Management (LTCM) was a hedge fund run by Nobel laureates and Wall Street geniuses.

They did very well for a while, but in 1998, LTCM collapsed, forcing the Federal Reserve to bail it out with $3.6 billion.

What happened?

They leveraged their bets 25-to-1.

“I’ve seen more people fail because of liquor and leverage - leverage being borrowed money. You really don’t need leverage in this world much.” — Warren Buffett

7. Doing Too Much

People might picture great investors sitting behind six monitors, trading all day long.

But Buffett built the greatest track record in history by doing almost nothing.

He knows that the real money is made by buying wonderful, cash-flowing businesses when they’re on sale, and then letting them compound for decades.

Buffett bought American Express way back in the 1960’s during the ‘Salad Oil Scandal’.

But in 1991 he expanded his position to $300 million.

Berkshire’s American Express position is now worth over $45 billion.

And that doesn’t include the dividends Berkshire has received along the way.

“Lethargy bordering on sloth remains the cornerstone of our investment style.” — Warren Buffett

Conclusion

That’s it for today!

Here are the 7 investing sins we learned about today and how to avoid them:

• 1. Treating the market like a casino: Buy real businesses, not ticker symbols.

• 2. Sucking your thumb: When the price is right, pull the trigger.

• 3. Ignoring your circle of competence: Only invest in what you understand.

• 4. Overpaying: Always demand a margin of safety, even for great companies.

• 5. Letting emotions drive: Be greedy when others are fearful, and fearful when others are greedy.

• 6. Using leverage: Never invest with borrowed money.

• 7. Doing too much: Buy wonderful businesses and let them compound.

One Dividend At A Time,

-TJ

Used sources

• Interactive Brokers: Portfolio data and executing all transactions

• Fiscal.ai: Financial data

Disclaimer

As a reader of Compounding Dividends, you agree with our disclaimer. You can read the full disclaimer here.

The series where I teach you 5 things about dividend investing in less than 5 minutes.

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1️⃣ SCHD Shifts to Tech

The Schwab U.S. Dividend Equity ETF (SCHD) rebalances its portfolio every quarter to make sure no single stock or sector exceeds its index caps.

The latest Q3 rebalance involved a sharp rotation back into Technology, increasing the sector's weight from 8.90% to 12.00%.

Health Care got trimmed from 20.99% down to 18.77%.

Individual stocks saw some big moves too:

• QCOM went from #18 to become the #1 holding at a 4.74% weight

• TXN went from #12 to the #2 spot at 4.41%

2️⃣ Amazon Takes the Top Spot for Revenue

For years, Walmart sat at the top of the global revenue chart.

But things are always changing as shown by the image that tracks the top companies by revenue from 2020 to 2026:

• After holding the #1 spot for over half a decade, Walmart dropped to #2 ($713B), as Amazon ($717B) climbed to #1 all the way from #9 ($281B) back in 2020.

3️⃣ An Investing Quote

Markets, sectors, and companies are constantly in motion.

Whether it’s a dividend ETF like SCHD rotating its weightings, or the biggest companies in the world changing position in the revenue rankings, most things change.

4️⃣ SCHD’s Strategy

SCHD has performed very well since its inception in 2011, retiring more than 13% per year on average.

That makes its strategy worth studying.

• Starts with the Dow Jones U.S. Broad Market Index and requires companies to have at least 10 consecutive years of dividend payments

• Ranks eligible stocks by dividend yield and discards the bottom 50%

• Selects the top 100 stocks based on a composite score of cash flow-to-total debt, return on equity (ROE), indicated dividend yield, and 5-year dividend growth rateF

• Holdings are market-cap weighted with limits for single stocks and sectors

Click here to read the SCHD Strategy Insights paper.

5️⃣ Example of a Dividend Stock

Qualcomm moved up to the #1 spot in SCHD.

They design and sell semiconductor chips for smartphones and connected devices, and collect royalty fees by licensing wireless technology patents.

Key numbers from Fiscal.ai:

• Profit Margin: 21%

• Forward PE: 21.8x

• Dividend Yield: 1.8%

• Payout Ratio: 41.3%

Used sources

• Interactive Brokers: Portfolio data and executing all transactions

• Fiscal.ai: Financial data

P.S.

Paid partners get full access to the Compounding Dividends Portfolio, our High Yield Portfolio, and the Community.

Disclaimer

As a reader of Compounding Dividends, you agree with our disclaimer. You can read the full disclaimer here.

But the manufacturers of all that food know them well.

They make the patented, specialized ingredients that give your favorite foods their texture, crunch, and sweetness.

Right now, Wall Street is looking the other way.

• The stock is trading at a significant discount to intrinsic value
• Management estimates a single operational fix embeds ~$20/share in upside
• The dividend yield sits above 3% with more than a decade of consecutive hikes
• A pending acquisition will push high-margin specialty sales over 50%

It is rare to find a boring, cash-generative compounder trading at a steep discount for reasons that are entirely fixable.

The Business Sells Science

Most people think food processing is a low-margin commodity race.

For basic grains, it is.

But this company operates a two-tiered engine that separates it from standard agricultural processors:

1. A Regional Moat: The company owns massive local infrastructure across Latin America and North America (owning more plants in its key regions than all competitors combined). Because liquid syrups and wet starch slurries are heavy and cost-prohibitive to transport, 90% of what they make is sold locally, making it hard for foreign competitors to compete.

2. Hedged Margins: Management is incredibly good at hedging volatile commodity prices. The proof? The business has not posted a single quarterly operating loss in over a decade, even during historical crop droughts.

3. The Real Crown Jewel: The fastest-growing division of the company isn’t selling bulk grain; it sells texture science and reformulation solutions.

When global food giants are forced to cut sugar by 40% without making the product taste like cardboard, or when plant-based brands need to eliminate that chalky bite in protein bars, they don’t develop the science in-house.

They partner with this firm’s global food labs.

Massive Switching Costs

Food brands are not price-sensitive when it comes to specialty ingredients, they are risk-sensitive.

Consider a recent case study: A European private-label brand set out to launch an all-in-one meal replacement drink with 45 distinct vitamins and nutrients. Early prototypes were gritty and bitter.

They brought the problem to this company’s scientists, who engineered a proprietary, clean-label solution that tasted great.

The product hit store shelves in under three months.

Once a custom ingredient is baked into an assembly line and printed on millions of product packages, a manufacturer will almost never switch suppliers to save a few pennies.

Swapping out a texturizer risks changing the taste, mouthfeel, and customer loyalty.

A $20/Share Temporary Problem, That’s Already Solved

Why is the stock cheap?

Over the past four quarters, the company battled unexpected downtime at its largest production facility.

Because this plant handles an enormous share of regional volume, rerouting supply and making repairs cost the business roughly $80 million in lost operating profit.

The plant returned to normal production over the summer, but the market has yet to re-rate the stock.

In a recent presentation, the CEO addressed the market’s overreaction directly:

“We believe that perhaps there is a $20 impact in the stock related to that facility... and we have got to earn back the right to get that $20 back in the stock price.”

Simply restoring this single facility back to historical run-rates gives up an upside of roughly $20 per share.

A Transformational Acquisition

While the market is distracted by temporary plant repairs, the company is preparing to close a massive, all-cash acquisition of a competitor.

The deal permanently transforms the company’s financial profile:

• Shifts specialty ingredients from about 1/3 to more than 1/2 of total revenue

• Creates a $10 Billion global giant

• Expected to be >15% accretive to adjusted EPS in Year 1

Valuation: Three Ways to Win

At current prices, the stock offers an asymmetric setup:

• Dividend Yield vs. History: The stock’s yield is about 30% higher than the historical average

• The $20 re-rate: Management has already told us that fixing the issues with the manufacturing plant could add $20 back to the share price

• Expected Return: Assuming conservative 5% earnings growth, and modest multiple normalization, long-term investors can reasonably project an annualized total return above 10%, and those numbers undersell the pending acquisition by a lot.

Unlock the Full Deep Dive

The complete 30+ page research report, including the company name, ticker symbol, complete financial models, and balance sheet breakdown is available exclusively to paid members.

If you want to read the full case, and get immediate access to our entire Portfolio, join us today.

Read the Full Deep Dive

One Dividend At A Time

-TJ

Used sources

• Interactive Brokers: Portfolio data and executing all transactions

• Fiscal.ai: Financial data

Disclaimer

As a reader of Compounding Dividends, you agree with our disclaimer. You can read the full disclaimer here.

Screens are a great tool to find investing ideas.

When you screen for income, it’s easy to get pulled towards the highest yields you can find.

But there’s a much better way, and today I’ll show it to you.

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The Second Quintile

Historically, the secret to outperforming the market isn’t buying the top 20% of high dividend yielders.

It’s buying the next 20%, the Second Quintile.

Hartford Funds looked at the performance from 1930 to 2023.

• $1,000 in the S&P 500 grew to $8.6 million

• $1,000 in the Second Quintile grew to $31.2 million

That is nearly 4x more wealth.

Why it Works

The Second Quintile is a great place to invest for several reasons:

1. Safety: You avoid the yield traps and distressed companies in the top tier.

2. Quality: You own profitable companies with enough cash flow to pay you and grow the business.

3. Stability: Historically, this group has the fewest negative years of any quintile.

That third one is huge - protect the downside and the upside takes care of itself.

These companies tend to have a much lower Payout Ratio than the first quintile as well.

I screened the Russell 1000 to find the companies sitting in that Second Quintile today.

Second Quintile Screen Results

Let’s look at a few that are interesting:

Otis Worldwide (OTIS)

How they make money:

Otis is the world’s leading manufacturer, installer, and servicer of elevators and escalators.

Why They’re Interesting:

• Recurring Revenue: While new equipment sales are cyclical, the real money is made on the back end. Elevators require strict, legally mandated maintenance.

• High Consolidation: The global market is an oligopoly dominated by just a handful of major players.

Otis’ Competitive Advantages:

• Razor-and-Blade Model: Their massive global installed base feeds high-margin, sticky service and maintenance contracts.

• Route Density: They have the largest global number of mechanics, creating efficiencies that regional competitors cannot match.

• Dividend Yield: 2.51%

• 5-Year DPS CAGR: 22.32%

• Chowder Score: 24.83

Tractor Supply (TSCO)

How they make money:

Tractor Supply is the largest rural lifestyle retailer in the United States, supplying everything from livestock feed and agricultural supplies to hardware and workwear.

Why They’re Interesting:

• Needs-Based Spending: The bulk of their sales come from consumable, non-discretionary items. Whether there is a recession or not, animals still need to eat.

• E-Commerce Resistance: They sell heavy, bulky items (like 50-pound bags of feed or fencing) that are unprofitable for traditional e-commerce companies to ship.

Tractor Supply’s Competitive Advantages

• Geographic Moat: Their stores are located outside major urban centers, insulating them from direct Amazon logistics competition.

• High Loyalty: Their specialized inventory and knowledgeable staff cater to a specific “Out Here” lifestyle demographic that big-box retailers ignore.

• Dividend Yield: 2.95%

• 5-Year DPS CAGR: 25.11%

• Chowder Score: 28.06

Upgrade for more…

Otis and Tractor Supply are phenomenal businesses, but they are only the beginning of this month’s screen.

There are three more 2nd Quintile Compounders on this list with strong market positioning and pricing power.

More importantly, premium subscribers get the screen results, plus the 5-year growth rate and Chowder Score for each company on it.

If you are ready to stop chasing dangerous yields and start building a portfolio of durable, sleep-well-at-night compounding machines, upgrade your subscription today.

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Conclusion

The Second Quintile is a great place to search for sustainable and growing dividend yields.

Here are are a few interesting companies that I think fit this criteria:

• Otis Worldwide (OTIS): A global elevator oligopoly printing high-margin, recurring revenue from legally mandated maintenance contracts.

• Tractor Supply (TSCO): The dominant “rural lifestyle” retailer selling e-commerce-resistant, non-discretionary agricultural supplies and feed.

One Dividend At A Time,

-TJ

Used sources

• Interactive Brokers: Portfolio data and executing all transactions

• Fiscal.ai: Financial data

Disclaimer

As a reader of Compounding Dividends, you agree with our disclaimer. You can read the full disclaimer here.

Today I want to walk through two possible outcomes for AI brought up by Professor Aswath Damodaran.

Let’s see if either one can justify today’s level of investment, or stock prices.

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The AI Buildout

It’s no secret that companies are spending massive amounts of money building AI.

2027 CapEx is projected to be more than $1 Trillion.

Between now and 2031, the total spend is projected to be more than $7.5 Trillion.

If you had $7.5 Trillion, you could buy all of Microsoft and Amazon, and still have $1 Trillion left over.

To justify spending that kind of money, companies will need to generate a lot of revenue.

In SpaceX’s IPO filings, they said their Total Addressable Market is $28.5 Trillion.

• $26.5 Trillion of that is AI-related

• $22.7 Trillion is AI Enterprise Applications

This means that SpaceX expects 80% of their market to be companies paying for AI applications.

Option 1: AI Is A Huge Success

For businesses to justify the kind of spending SpaceX projects, AI has to replace a lot of the professional class.

Companies have to be able to replace software engineers, consultants, and marketing departments at a lower cost.

That expectation - that companies will be able to cut their labor budgets, and increase profit margins is what’s driving the current valuations of everything related to AI right now.

It seems like a pretty obvious investment.

• Big tech is pouring trillions into data centers and hardware

• AI models are improving rapidly and will eventually replace human workers

• Companies will see record profit margins, the AI companies will get a cut of that

• Investors in both the models and the adopters get filthy rich

But investing is almost never that simple.

Especially in something as uncertain as how AI will play out.

Now’s a great place for this Charlie Munger quote:

We need to go deeper.

We need to do what Howard Marks calls ‘second-level thinking’.

Second-Level Thinking in AI Success

I could show you the math on the revenue and profit margins required to get a reasonable return on the planned AI spending here.

But I won’t.

The numbers are so big that they’re hard to get your head around.

Instead, I’ll just ask you the same question Professor Damodaran asked - what happens if the AI companies are right?

What if AI really does replace consultants, lawyers, software engineers, and eventually plumbers and welders through robots?

This ‘success’ creates a huge problem.

Who Buys All The Products?

A business needs customers (with money) to purchase its goods and services.

If the AI companies succeed and replacing even half of white-collar workers, those employees lose their incomes.

If nobody has a salary, who buys all the stuff that this hyper-efficient AI economy is producing?

Sure, AI will likely create new jobs, but there will certainly be a period where the old jobs are gone and the new jobs aren’t here yet.

During that period, what happens to all the debt these companies are piling on to their balance sheets to build out AI?

Option 2: What If AI Is A Moderate Success?

I think it’s pretty clear by now that AI is real, and it has real uses.

But what happens if the technology doesn’t replace the workforce?

What if it turns out to be just a tool, like a really advanced spreadsheet?

In that case, the total addressable market is way smaller than what the current pricing demands.

This creates a different problem.

Building and running AI models is very capital-intensive.

And so far, the AI companies aren’t making very much money, if they’re making any at all.

Most of them are still trying to figure out a real business model.

If AI turns out to be a capital-intensive, low-margin software tool, then the huge amounts of money being invested will never generate the required returns.

Growing that kind of business very quickly destroys value and capital.

What To Do About It

The good news is that there are no extra points in investing for degree of difficulty.

You don’t have to predict which AI company will win, or how big the market will be.

You can just opt out.

You can still generate attractive returns over the long-run by buying businesses with:

• Durable Economic Moats: Look for companies selling products and services that consumers and businesses will need no matter what happens with AI

• Strong Free Cash Flow: We want businesses that generate real, hard cash, not just accounting earnings

• Great Capital Allocation: Find management teams that reinvest to keep the business healthy and growing, then return the excess capital to shareholders via consistent dividend growth and share repurchases when the price is right.

I don’t know how AI plays out, but I do know that people will need clean water, garbage collected, and homes with climate control and doors that lock.

Those are the kinds of businesses that we’ll keep buying and letting the dividends compound.

One Dividend At A Time,

-TJ

Used sources

• Interactive Brokers: Portfolio data and executing all transactions

• Fiscal.ai: Financial data

Disclaimer

As a reader of Compounding Dividends, you agree with our disclaimer. You can read the full disclaimer here.

The series where I teach you 5 things about dividend investing in less than 5 minutes.

Subscribe now

1️⃣ Dividends = Profit Distributions

It’s a common misconception that paying out a dividend lowers a company’s stock price.

The image shows why that’s not true.

As the profits increase, so does the company’s value.

When they pay a portion of those new earnings as a dividend, in theory, the value goes down by the amount paid out.

You aren't losing stock value, you are just receiving your cut of the business's profit.

2️⃣ Investors Chase Performance

Your biggest enemy in investing?

Your emotions.

They make you feel good buying stocks when they’re expensive.

And selling when they’re cheap.

The image shows that the most money flows into the market after periods of the best performance, and then flows out at the low points.

3️⃣ An Investing Quote

It’s easy to look at a chart in hindsight and swear you’d never make those mistakes.

But when the market actually tanks, it’s incredibly hard to stay logical.

The image above proves that most people can’t.

Peter Lynch says that it’s not because people can’t understand the logic, but because they can’t handle the emotions.

4️⃣ Low Expectations Lead to High Returns

Researchers looked at stocks with the most optimistic and pessimistic growth forecasts.

They found a predictable cycle:

• Analysts overreact: Fast growth makes analysts assume the trend will last forever, the same is true when growth is slow

• Nothing lasts forever: The growth trend almost always changes, forcing analysts to cut their optimistic predictions, or raise the pessimistic ones.

• Returns are the opposite of expectations: Stocks priced for perfection end up delivering low future returns, and the opposite is true for low expectation stocks.

You can read the whole paper here.

5️⃣ Example of a Dividend Stock

A stock with low expectations right now?

PepsiCo.

Most people think of PepsiCo as just a beverage company, but it actually generates more than half of its revenue from dominant snack brands like Lay's and Doritos.

Sales have been slow, and the market is worried that GLP-1 drugs will reduce snack demand.

Key numbers from Fiscal.ai:

• Profit Margin: 10.9%

• Forward PE: 15.7x

• Dividend Yield: 4.2%

• Payout Ratio: 74.7%

P.S.

We’re about to buy a business we believe is becoming better, more predictable, and more profitable.

Before the investment case rolls out, we’ll be celebrating with some limited-time discounted opportunities to become a paid partner.

Make sure you don’t miss it by getting on the waiting list.

I’ll send you a checklist for Chuck Akre’s 3-Legged Stool Framework when you do.

👉 Download it here

Used sources

• Interactive Brokers: Portfolio data and executing all transactions

• Fiscal.ai: Financial data

Disclaimer

As a reader of Compounding Dividends, you agree with our disclaimer. You can read the full disclaimer here.

Each month, I’ll give an overview of my favorite stocks of the month.

Let’s dive into this update and show you some of my favorite stocks.

August 2026

The S&P 500 was up +1.2% in August.

Investors are fearful today according to the Fear & Greed Index:

Best & Worst Performers

This overview shows you the best and worst performers in our investable universe.

Worst performers

The cheaper we can buy great companies, the better.

The biggest decliner this month? FinVolution, losing 31%.

FinVolution Group runs an online consumer finance and fintech platform across China and international markets.

They reported second-quarter revenue and net income that trailed the prior year, along with rising loan delinquency trends.

Best Performers

Salesforce was this month’s best performer, increasing by 35.7%.

Salesforce provides customer relationship management (CRM) software and enterprise cloud computing solutions.

Salesforce reported a second quarter earnings beat and an 11% year-over-year increase in revenue, easing market concerns about slowing software demand.

Spotlight: Rollins ($ROL)

How Rollins Makes Money

Rollins is the parent company of Orkin and a global leader in pest and termite control.

Rollins provides service to two main groups:

• Residential homeowners

• Commercial businesses

Why Rollins deserves to be in the spotlight:

• Route Density: Pest control is a localized business, the more customers Rollins has in a neighborhood, the less time technicians spend driving. That creates operating leverage and keeps margins high.

• Recession Resistance: Pest control is an ongoing, non-discretionary need, meaning customers keep paying Rollins no matter what the economy is doing.

• Recurring Revenue: Customers usually sign long-term, recurring contracts, giving Rollins predictable, stable revenues and cash flows.

Why the stock is down:

Rollins is an amazing business, but because it is so predictable and high-quality, the stock is almost always priced for perfection.

Rollins’ residential part of the business had some softness last quarter, and management slightly lowered guidance for organic revenue growth by 1% for 2026.

That led to the stock decreasing around 12%.

Rollins stock is down nearly 50% from the beginning of the year, which has brought it down from a very expensive valuation to a more reasonable multiple.

September Best Buys

I scanned our Buy-Hold-Sell List for great quality compounders, defensive stalwarts, and dependable dividend payers trading at attractive discounts.

Let’s dive into 5 of our favorite income ideas for this month!

5. Northrop Grumman ($NOC)

How does Northrop Grumman make money?

Northrop Grumman is a defense contractor that builds aerospace systems, defense technologies, and advanced weapons for the U.S. military and its allies.

The defense industry has very high barriers to entry.

Developing stealth bombers and space systems requires specialized knowledge, a lot of capital, and deep government relationships that new competitors can’t replicate.

Northrop is currently sitting on a record $105 billion backlog of orders.

That backlog will turn into future earnings, which management uses to buy back shares and increase the dividend.

4. Vinci SA

How does Vinci make money?

Vinci is a French concessions and construction company. They design, finance, and operate major infrastructure projects globally, with a heavy focus on European toll roads and international airports.

Vinci’s toll roads and airlines are local monopolies, which gives them strong pricing power.

Every time motorists drive on Vinci’s motorways or airlines use their airports, they collect fees.

Management takes the cash flow from these mature concessions and uses it to fund new assets, like the energy portfolio Vinci is building, along with a very attractive, growing dividend for shareholders.

But there’s more

Northrop Grumman and Vinci are just two of our five favorite ideas this month.

The best one is still to come.

It’s a business we believe is becoming better, more predictable, and more profitable.

And it’s one we’re planning to buy for the Compounding Dividends portfolio.

Before the investment case rolls out, we’ll be celebrating with some limited-time discounted opportunities to become a paid partner.

Make sure you don’t miss it by getting on the waiting list.

I’ll send you a checklist for Chuck Akre’s 3-Legged Stool Framework when you do.

👉 Download it here

One Dividend At A Time,

-TJ

Used sources

• Interactive Brokers: Portfolio data and executing all transactions

• Fiscal.ai: Financial data

Disclaimer

As a reader of Compounding Dividends, you agree with our disclaimer. You can read the full disclaimer here.