In fact, taking advantage of dividends and, more importantly, dividend reinvesting, could be one of the smartest investing moves you can make!
What are dividends?
Loosely speaking, dividends are pay-outs of a company’s earnings to company shareholders, as decided by the board of directors. They’re usually cash payments but can sometime be pay-outs of shares of stock or other assets.
So when a company records a profit, they can either pay this additional money out to shareholders (i.e. dividends) or keep it within the company as retained earnings.
Why pay dividends?
There are several reasons for a company to pay dividends rather than to reinvest profits back into the business. One of the main reasons is to tempt investors to buy more stock: if a company regularly gives out dividends, it can attract an investor looking for extra income, and thus to invest in the company and take advantage of the regular cash pay-outs.
Dividends can also act as an indication of a company’s strength: paying out a dividend can indicate that company management has positive expectations for future earnings. Positive outlook means more attractive to investors.
How do I get them?
First, you need to own stock in that company. Let’s take Apple as an example. Earlier in 2017, on February 16 to be exact, Apple paid out a dividend to shareholders. For every 1 share, Apple paid out 57 cents. Doesn’t seem like much, right?
Well, that’s just for 1 share. You get $.57 for each share you own AND pay-outs typically happen every quarter. So for every share you own, you get a dividend pay-out every 3 months – money you are earning just from owning the stock. Ears pricked yet?
Apple’s dividend pay-out relative to share price (known as the Dividend Yield) really isn’t that high: it sits at around 1.6%. Many companies are much higher: IBM and Coca-Cola have yields well above 3% and GM’s yield is close to 5%. There are many others, too.
If you’re looking specifically for dividend-giving companies, note that start-ups and other high-growth companies (like in technology or bio-science sectors) are unlikely to give out dividends, since most of their profit will be reinvested in the company, to sustain rapid growth and expansion.
Should I cash out, or reinvest?
Once you have your dividends, what should you do with them?
A dividend reinvestment plan (a.k.a. DRIP) is an easy way to automatically use your dividends to buy more shares of the stocks in your portfolio and is a common solution for many.
By reinvesting, the money will not only potentially grow in value, but may also earn you more in dividends, resulting in a snowball effect for the duration of your investing period (thanks to the power of compound interest!). It therefore makes sense to reinvest rather than cash-out, since the future potential is huge.
Enrolling your stocks in a dividend reinvestment plan is one of the best ways to grow your portfolio over the long run. If you have a comfortable level of income whereby you don’t need the cash immediately, dividend reinvesting is a convenient way of growing savings, ultimately leading you to investing success.
Take advantage of the compounding effect and set yourself up for investing success today with dividends!