The Dividend Growth Pyramid: A Long-Term Wealth-Building Strategy
Updated: Oct 5
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Investing in dividend stocks is considered one of the most common and effective strategies for generating long-term passive income. This strategy emerged from a combination of Graham’s "value theory" and the concept of "income-generating investment" - an approach not attributed to any single individual. Nevertheless, the strategy has proven resilient over the years.
It involves purchasing shares in companies that regularly distribute dividends, allowing investors to benefit from monthly or quarterly income, depending on the specific company's payout policy.
In this article, to help investors new to the Dividend Growth Investing (DGI) strategy avoid pitfalls and maximize profit potential, I will explain the "Dividend Growth Pyramid" model and how you can leverage it to your advantage.
The "Growth Pyramid" model provides a clear framework for categorizing the types of investments available in the market, spanning the various levels of a company's growth and profitability
At the base of the pyramid lie companies offering high dividends and high dividend yields, though they may be exposed to significant economic risks.
As one moves up the pyramid, the companies offer lower dividends and dividend yields, but demonstrate higher growth rates and greater stability.
This model not only helps assess the risks and potential of each investment but also enables investors to align their portfolios with their personal financial goals.
For instance, an investor seeking immediate income might choose dividend stocks with higher yields, whereas an investor aiming for long-term growth might prefer companies with high growth rates, even if current dividend payouts are lower.
A deep understanding of this model can enhance an investor's decision-making and help them build a balanced, strategic portfolio that paves the way to true financial freedom.
Dividend Growth Pyramid Structure and Asset Classification
The pyramid categorizes the universe of dividend-paying stocks into three main groups based on yield and growth rate. At the top of the pyramid are companies with low dividend yields - typically around 1% or less - but with high free cash flow growth rates. Companies such as Costco, Visa, Microsoft, and ASML focus on increasing their cash flow, which drives share price appreciation and consistent dividend growth over time.
These companies present a simple equation: more cash for the company equals more cash for the investor in the future.
As the investor moves down the pyramid, they encounter companies with higher dividend yields but lower growth rates.
Companies with yields ranging from 3% to 5% are found in the middle of the pyramid. At the base of the pyramid lie assets that generate exceptionally high yields - between 7% and 14%.
This category includes covered call ETFs, preferred stocks, Business Development Companies (BDCs) such as Main Street Capital, and Master Limited Partnerships (MLPs) such as MPLX.
I want to clarify that I do not personally invest in covered call ETFs, preferred stocks, or MLPs, as I consider them investment instruments intended for highly advanced investors. In my humble opinion, it is very difficult to determine what and where to invest when dealing with these types of instruments.
When you factor the investor's time horizon into the yield equation, it becomes clear why a longer horizon calls for a higher dividend growth rate; this is precisely what allows the power of compounding to work in our favor.
If you need immediate cash, options-based ETFs, preferred stocks, BDCs, and MLPs are excellent choices for income-focused investors. Incidentally, as retirement approaches, you will likely need to make additional investments to diversify beyond these specific instruments.
Choosing a Strategy Based on Time Horizon
The choice of where to focus within the pyramid depends on four factors: the investor's time horizon, personal goals, risk tolerance, and long-term suitability. This applies to any investment decision we make in life; every such decision involves these factors.
Without mapping out our goals, objectives, and target figures, we cannot make any real progress.
Dividend Growth Investing (DGI) is designed for investors aiming to maximize long-term income and total return - placing them typically at the top of the pyramid. High-Yield Investing is intended for those who require maximum immediate income right now.
Historical data and economic models show that when comparing these two paths - without reinvesting dividends - a high-yield investment generates higher income during the first 12 years. However, after the 12-year mark, the growth potential of DGI companies allows them to overtake high-yield companies and generate significantly higher annual income in the long run.
Even when accounting for dividend reinvestment - which is not shown in the graph above - growth companies are expected to outperform high-yield companies in the long run.
The Importance of Yield on Cost
"Yield on Cost" (YOC) is a key concept that illustrates the power of growth. A comparison between Domino's Pizza and AT&T provides a clear example of this.
In 2015, AT&T offered a dividend yield of 7.32% - what appeared to be an attractive, "fat" dividend - whereas Domino's offered approximately 1.22%.
Note the difference in yields; the gap appears vast, with no real competition between the two companies. Given this situation, who would even want to buy Domino's Pizza stock?
Ten years later, in 2025, look at what happened: AT&T’s yield on cost dropped to 4.32% due to inconsistent dividend payouts. In contrast, the yield on cost for Domino's surged to 7.85%.
This illustrates the power of a growing dividend and yield on cost. This yield represents a calculation of our current income relative to the original purchase price.
Please note: am I recommending any of these stocks? No. You must conduct your own independent research into what you are buying and why you are buying it.
This is merely an example intended to teach you what to look for when selecting a company you wish to hold.
There are many other examples of situations where a dividend yield appears attractive but actually harms investors.
Portfolio Mix and Customization
Although the growth pyramid serves as a guideline for investors, there are exceptions where one can find high yields combined with growth at an attractive price. For example, Altria Group - known for its cigarette, alcoholic beverage, and related brands - delivered a yield on cost of 9.27%, alongside annual dividend growth of 4% to 5% and share price appreciation.
Investors in this company realized substantial returns on their investment; however, this does not guarantee that all high-dividend-yield companies will perform like Altria.
The beauty of the DGI investment approach lies in the flexibility it offers for managing our investment portfolio. It allows us to mix companies with low, medium, and high dividend yields, as well as varying rates of dividend growth.
This aligns with the common-sense logic of an investor who acknowledges the uncertainty of the future; by incorporating companies with diverse yield profiles, one can achieve further diversification.
While many investors speak of asset diversification - referring to the assets themselves - the DGI strategy introduces an additional layer of diversification based on dividend yields and dividend growth rates.
The Pyramid Evolves with You
In summary, the dividend growth pyramid offers an effective mindset for an investor just starting out with a DGI strategy.
The dividend growth pyramid is not merely a way to categorize different types of stocks; it is a framework for considering the relationship between time, growth, and cash flow.
Early on - when there are still many years before you need to draw income from the portfolio - the focus can be on companies with dividend growth potential. As you approach the stage where the portfolio is expected to begin funding part of your living expenses, you can gradually consider increasing the weighting of assets that generate higher ongoing cash flow.
There is no single "correct" position for everyone. Your placement on the pyramid depends on your goals, investment horizon, needs, and risk tolerance.
Understanding where you stand on the pyramid is the key to building a sustainable investment portfolio.
After all, a good DGI portfolio is built not only based on where you are today, but also on where you want to be.
What do you think? Share your opinions, experiences, or insights in the comments - because on the journey to financial independence, there is always something more we can learn from one another.
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