According to Investopedia “A dividend is a distribution of a portion of a company’s earnings, decided by the board of directors, to a class of its shareholders.”
Dividends can be issued as cash, shares or other property.
So why are we interested in dividends? And how can they help us? Well according to Standard & Poor’s report dividends are responsible for 44% of the last 80 years of returns of the index. I don’t know about you but that caught my eye. Almost half of the returns people earned was due to dividends! I thought this might bear some looking into.
How do stock dividends work?
Dividends are a payout that a company will give back to people that own a part or share of their company. It can be in a form of cash, more stock or other property.
Dividends are usually paid out every three months and are declared before they are paid out. When a dividend is declared they also include the size of the dividend, the ex-dividend date and payment date.
To break these down a little bit. The size of the dividend will be declared which means that for example last quarter Wells Fargo announced they would be issuing a $.37 dividend for the quarter. So each quarter they announce the amount of money they are going to pay out.
The ex-dividend is typically two days prior to the record date, which is the date that you must own the stock. Investors need to buy the stock three days prior to the record date because it usually takes three days to settle any trade on the stock market. Since the ex-dividend date is two days before the record date the investor must hold the stock one day before the ex-dividend to received the payout.
The payment date is pretty obvious. This is the day that we get the money, stock, etc. It will be deposited into your brokerage account on that date. This is our favorite day!
Another option of payment is to have the dividend reinvested back into more shares of the stock. This is referred to as a DRIP or dividend reinvestment plan.
This is an awesome way to grow your wealth without having to place more orders of the said stock. Because there are no additional purchase fees this is a great way to earn more money. Because as you purchase more shares you get more dividends, which in turn gives you more stock and so on. It is amazing!
The rate that they are paid out is referred to the dividend yield. This rate is quoted in terms of a percent of the current market price. An example would be if the dividend paid is $1 and the price of the stock is $20 then the yield would be 5%. We like easy numbers.
Dividends are paid out every 3 months, generally. There are some companies that pay their dividends bi-annually or annually. But these are pretty rare. All companies that pay out dividends have to follow the declaration, ex-dividend, and payout dates as these are rules set by the SEC. One of the agencies that governs the stock market.
How do dividends get calculated?
The dividends are paid out of a companies earnings for the year. The process is such that the directors of the company will look at the financials for the year and decide if they are going to pay a dividend out of their earnings or if they will use that money for other purposes.
There are some very specific things you can look for in the balance sheet and income statements that will reveal how much a company has or will be paying out in dividends. We will start going over these particulars in upcoming posts. Just remember that numbers are your friend and that as a business owner you need to be aware of what happens with your company.
And make no mistake as an investor in stocks you are a business owner. Every time you buy a company you are buying a piece of that business.
The companies that consistently pay dividends do so because they want to give back to their shareholders for investing in their company. They also see this as a way of paying them back for their investment. These dividends are paid to the common stock shareholders at the payment date.
Typically these dividends are decided quarter by quarter and they are usually referred to by the amount that is paid per share. So, if you see a company that is paying out $.50 for a dividend that means that for every share you own you will receive $.50! Pretty neat huh.
Sometimes you will see notifications that say a company will pay out $2.00 a year in dividends. This means that they will pay out four payments of $.50 a quarter to add up to the $2.
Remember that if you own this particular stock at the time of declaration of a dividend you will receive that payout that quarter.
6 Proven Ways Dividends Grow your Wealth:
1. Reinvestment of your dividends.
One of the best ways to grow your wealth is to reinvest your dividends back into the company that you have already purchased.
So how does this grow your wealth? Well, first it grows your shares of the business as you reinvest. As you have the dividends purchase more shares, which will usually be fractional. You will accumulate more shares, which in turn will give you more dividends as they are issued. This allows you to grow your initial investment incredibly, without having to make a single additional purchase.
So numbers to illustrate this for you
We are using some numbers from Coke over the last 35 years. If you had started with $10,000 and reinvested your dividends this is what your amount would have grown too! Isn’t that amazing! I know when I started looking into this post I was amazed at the numbers that I ran across.
This is the power of reinvesting your dividends. Warren Buffet knew this all those years ago when he first purchased Coke and it has made him a very wealthy man indeed.
Another perk of this repurchasing of shares is that it comes at no cost to you. When you buy any share of stock you will need to use a broker to make those purchases for you. And to do this comes with a cost. Anywhere from $4.95 to $20 a share, depending on which broker you use.
This can add up to hundreds of dollars which you can save, which adds to your bottom line.
2. Passive Income
Dividend investing is one of the classic examples of passive income. After your initial purchase you just sit back and watch the value of your investment grow. If you employ the strategy of reinvesting your dividends your portfolio will exponentially expand.
Adding additional contributions to your allocation will help your investments grow tremendously. After you initial purchase you can and should continue to add to your position to continue adding logs to the compounding fire.
3. Investing in companies that grow their dividends
Investing in companies that offer dividends is a bonus because of several factors. First being that they tend to be shareholder-friendly companies. And by this, I mean that they are using the free cash that they generate to help increase the value of the company, either by reinvesting it into the business or giving back to you, the shareholder.
Companies that pay dividends are generally stronger, more reliable businesses. They tend to be more mature and a little more stable. Now as in everything with investing, this is a general rule and you need to do your due diligence before buying anything.
Looking for companies that are growing their dividends on a yearly basis will also give you and indication of a company that has a great business model or as we refer to it a moat.
By this, I mean that the said company has a strong brand, product, etc that allows it to be profitable in a way that can give back to its shareholders. More on this in a later post.
As you continue to invest in these companies and they continue to grow their dividends your investment will grow exponentially.
4. Dividend Aristocrats and Dividend Kings
What the heck are dividend kings and aristocrats? I’ll be honest and tell you that I had no idea myself a few years ago. But as I learned more about this the more I have come to appreciate them.
Both the Dividend Kings and Aristocrats are in the S&P 500 and have the certain size and liquidity. These are two of the requirements necessary to be considered for both of these lists.
Dividend kings is a very exclusive list. They are a list of 17 companies that have grown their dividend payments for 50 consecutive years or more! Talk about growth! Some examples of these companies are Coke, Proctor & Gamble, 3M, Hormel among others.
A company must have an incredible durable competitive advantage to continue increasing dividends for 50 years! Yowza.
Dividend Aristocrats is also a very exclusive list as well. There are 50 companies on the dividend aristocrat list. The requirements for this category would be that they continue to increase their dividend payments for 25+ years. Again a very strong competitive advantage to be able to increase and pay dividends for 25+ years or more.
A few examples of the Aristocrats are Walmart, Exxon, Chevron, and McDonalds. Pretty big names and very recognizable brands with big, huge moats. Maybe not always to most popular but well run companies that are shareholder friendly.
If you are looking for a great place to start looking for companies to possibly invest in. The list of dividend kings and aristocrats would be a fantastic place to start. I will give the links to the lists for the Kings and Aristocrats.
5. Dividends outperform the market
Let’s talk some numbers. So how can dividends outperform the market? For the last ten years, Dividend Aristocrats have beaten the market or the S&P 500 from 10.7% to 7.5% for the S&P. That is quite an outperformance.
Why did this happen? The Aristocrats are heavily tilted towards consumer staples and industrials, with very little in the technology sector. This is not exciting stuff but much more stable than the tech sector can be.
The Aristocrats have heavily outperformed the market because they are on average higher quality businesses. They also generate great earnings or cash flow which allows them to pay dividends.
Another factor is that they tend to be selective when they are considering any growth projects as they could impair the companies ability to pay dividends.
So how have the Dividend Kings done? Well, for the last 25 years the S&P has returned 9.8%. While the Kings have returned 14% for the same period! That is seriously kicking some major butt.
To be fair this is not an apple to apple comparison but it is interesting to note that investing in companies that pay out dividends continually beat the market in comparison after comparison.
The advantage to you would be that you could tap into that growth to help you grow your own wealth. Using the lists above for a starting point of looking for companies to invest in would be a fantastic idea.
I know some of these companies are not exciting or flashy but who wants flashy when we are talking about our wealth and retirement. The tortoise and hare come to mind when I think of this. I guess I would rather put my money in a company that produces toothpaste or shampoo than the latest new fangled tech out there. Don’t get me wrong I am all about embracing technology but when it comes to my money I want boring and predictable.
6. Dividends are for the long term
Dividends are by nature an investment best suited to the long term horizon. To accumulate all those benefits of reinvesting your dividends you need to look at your investments as a long-term commitment.
If you are looking to move in and out of companies then dividends are not necessarily for you. The way that dividends can increase your wealth is by patience and continually using the power of compounding to do its magic for you.
The way that they can work for you is being invested for the long haul. Trying to buy a company and holding it will give you the best bang for your buck. In this circumstance, time is your friend. With time compounding can do its thing and you can grow your wealth.
We have discussed where dividends come from and how they are paid. Not all companies pay dividends and for my money I look for the companies that do pay out a dividend.
The reason I do this is that I am looking for a shareholder-friendly company and a dividend is one way that they can show me that they care about me.
Another reason is that these companies tend to be more stable and have a little less risk. Keep in mind that any investment in the stock market is going to come with risk and it is important that we do our investigation and research so that we can make as informed a decision as possible.
It is impossible to find a risk-free investment in the market but I feel that a dividend paying company will allow me a little more leeway and give me a little more peace of mind with my decision.
There are tons of great resources out there to learn more about dividends and companies that pay them. One of my favorites is suredividend.com. This site is run by Ben Reynold who is a great writer and really knows his stuff. He has a newsletter that he puts out at least weekly and he has some great insights and advice.
Another great site is seekingalpha.com. This is one of my absolute favorite sites for news, research, watch lists. It is the site that features tons of great writers who analyze just about any company you can imagine. There is so much amazing information on this site it can kind of overwhelm you. And by the way, it is FREE!
I use it for setting up all the watchlists of the different stocks that I am following. It also is great for keeping updated with the latest news on companies that I am interested. Also, there are great articles written with pros and cons for each company.
To me dividends are a must have for any investor’s portfolio and I think I have shown that they are an amazing way to help grow your wealth. They are not always the sexiest, most exciting companies but they will help you get the finish line in great shape. Which is the goal after all.
So what do you think of dividends? Are they a strategy that you employ in your investing?
Let me know your thoughts on dividends in the comments. If this is something you think would be of benefit to someone else, please share it with them.
Until next time. Thanks for taking the time to read this post and take care.