Woman puts money into a piggy bank.

Dividend Investing: Small Payments Can Boost Returns

May 18, 2018

Share

Investing is full of choices. Stocks or bonds? Mutual funds or individual securities? Capital appreciation or dividend payments? If you’re unfamiliar with those last two terms, you may be missing out on an important investment strategy.

Owning shares of stock or stock funds might increase the value of your portfolio in one of two fundamental ways: capital appreciation (i.e., price increases) and dividend payments. Of the two, capital appreciation carries the greatest potential for return, but it also carries the greatest potential for loss. And any gains or losses are only reaped when you sell your shares.

By contrast, dividends typically offer more consistent modest returns that are paid while you hold your shares. For this reason, dividends have long been popular with retirees and others who are looking for regular income. But focusing on dividends can be appropriate for almost any investor, especially if dividends are reinvested to purchase additional shares. Although reinvesting dividends from individual stocks may not be cost-effective, mutual funds and exchange-traded funds (ETFs) generally offer an option to reinvest dividends and/or capital gains.

Growth and volatility

In general, more established companies tend to pay dividends, and these companies may not have as much growth potential as newer companies that plow all of their earnings back into the company. Even so, dividends can boost total return. A 2015 study found that dividends had accounted for about one-third of the total return of the S&P 500 index since 1956, with the other two-thirds from capital appreciation. In the fourth quarter of 2017, more than 80% of S&P 500 stocks paid a dividend with an average yield of 1.87% for the index as a whole and 2.24% for dividend-paying stocks. Many mid-size and smaller companies also paid dividends.1

Because dividends are by definition a positive return, even during a down market, dividend-paying stocks may be less volatile than non-dividend payers. However, dividend stocks tend to be more sensitive to rising interest rates; investors looking for income may move away from stocks if less risky fixed-income investments offer comparable yields.

Quarterly payments

Dividends are typically paid quarterly in the form of cash or stock. The amount is set by the company's board of directors and can be changed at any time. Dividends can be expressed as the dollar amount paid on each share or as yield — the annual dividend income per share divided by the current market price. When the share price falls, the yield rises (assuming dividend payments remain the same), enabling investors who reinvest their dividends to buy more shares that have the potential to grow as market performance improves.

Investing in dividends is a long-term commitment. In exchange for less volatility and more stable returns, investors should be prepared for periods where dividend payers drag down rather than boost an equity portfolio. The amount of a company's dividend can fluctuate with earnings, which are influenced by economic, market, and political events. Dividends are typically not guaranteed and could be changed or eliminated.

The return and principal value of all investments fluctuate with changes in market conditions. Shares, when sold, may be worth more or less than their original cost. Supply and demand for ETF shares may cause them to trade at a premium or a discount relative to the value of the underlying shares.

Mutual funds and ETFs are sold by prospectus. Please consider the investment objectives, risks, charges, and expenses carefully before investing. The prospectus, which contains this and other information about the investment company, can be obtained from your financial professional. Be sure to read the prospectus carefully before deciding whether to invest.

1S&P Dow Jones Indices, 2015, 2018

Need more insight? Let us be your guide.

Our national network of experienced financial advisors can help you create a personalized plan to help you identify financial goals and get you where you want to go in life.

Find an Advisor

Related Insights

Calculator and graphs image

10 tips to master personal finance

Personal finance is an important, and sometimes tricky, subject. There’s more to know than the average credit-card-swiping, online-bank-account-monitoring, stock-market-checking individual can keep track of. We’ve put together some of the top tips and best practices to help navigate your personal finances.

Read More
Calculator and pen on desk

Tips for creating a budget and sticking to it

Creating a budget is the first step to successfully managing your finances. Here are four tips to help you create – and stick to – a budget.

Read More
Retirement Goals

Four points to consider when setting a retirement income goal

Have you thought about how much monthly income you’ll need to retire comfortably? If not, you’ll want to consider these four questions as you set your retirement income goals.

Read More

This information is prepared by an independent third party, Broadridge Investor Communication Solutions, Inc. and is provided for informational and educational purposes only. Waddell & Reed believes the information has been obtained from sources considered to be reliable, but does not guarantee the accuracy of the information provided. This information is not meant to be a complete summary or statement of all available data necessary for making financial or investment decisions and does not constitute a recommendation.

Please note that the information provided may include references to concepts that have legal, accounting and tax implications. It is not to be construed as legal, accounting or tax advice, and is provided as general information to you to assist in understanding the issues discussed. Neither Waddell & Reed, Inc., nor its Financial Advisors give tax, legal, or accounting advice.

This information is not meant as financial or investment advice pertaining to your personal situation. The selection of appropriate investment, insurance or planning options and/or strategies should be made on an individual basis after consultation with appropriate legal, tax and financial advisors. Nothing contained herein is intended as a solicitation or an offer to buy or sell any product or service mentioned and they may not be suitable for all investors. Securities offered through Waddell & Reed, Inc., Member FINRA/SIPC, are not insured by FDIC, NCUA or any other government agency, are not deposits or obligations of the financial institution, are not guaranteed by the financial institution, and are subject to risks, including the possible loss of principal. Insurance products are offered through insurance companies with which Waddell & Reed has sales arrangements. Guarantees provided by insurance products are subject to the claims-paying-ability of the issuing insurance company.

Securities offered through Waddell & Reed, Inc., Member FINRA/SIPC, are not insured by FDIC, NCUA or any other government agency, are not deposits or obligations of the financial institution, are not guaranteed by the financial institution, and are subject to risks, including the possible loss of principal. Insurance products are offered through insurance companies with which Waddell & Reed has sales arrangements. Guarantees provided by insurance products are subject to the claims-paying-ability of the issuing insurance company.

Associated Tags: Investing, Saving And Investing, Retirement, Planning, personal finance

Market Data powered by Wikinvest. Data is provided as-is, delayed, and subject to Terms