What are Dividends?

A dividend is where a company pays shareholders a slice of the company’s profit. Dividends are like your individual share of the company’s profit. Dividends are usually a set amount per share, so the more shares you own, the more money you will receive.  Dividend can also be represented in percentages, sometimes referred to as “yield”, and with dividend paying stocks, the yield rises as the share prices fall, putting a type of “floor” on share prices.

Dividends are usually paid quarterly if they are paid. Some companies pay a steady dividend that is closely related to the company’s performance and other company’s pay a more stable dividend where the amount is less correlated to the profit the company makes.  Each company decides whether it will pay a dividend, or reinvest the profits in the business, as well as how much will be paid out to shareholders.

How are dividends paid?

Dividends are usually paid in cash. This cash can be reinvested in the company’s stock, a different stock or taken as cash. There are some instances where dividends are paid as stock, but this is much less common.  If at all possible, it is always wise to reinvest your dividends, and increase your positions in a company’s stock.

Does it make much difference?

Yes, it really can make a significant difference in the long term. If we go back to the 1930’s and look at the major stock indices, growth after inflation has been factored in isn’t particularly high, it is around 2%. However, during this same period of time, dividends averaged around 3%, taking the return up to 5% per year.

Why am I going back to the 1930s? I know it is a long time period, but I just wanted to get across the significance of dividend payments over the long term. For short term trading, they may be much less significant.

Why would a company pay a dividend?

One of the main reasons is to make a company’s stock more attractive to investors. This can increase demand for a stock and in turn increase the price.  In the event that a dividend paying stock’s price falls, dividend yield rises, making the stock more attractive, and increases demand for the stock, thereby raising the stock’s price.

In times of market volatility, dividend paying companies pay you to wait, and therefore can be extra attractive to investors looking to hedge against wild market swings.  Keep in mind that a company may choose to, or be forced by the SEC to stop paying dividends, and these payments are in no way guaranteed.

Which company’s pay dividends?

Dividends are often paid out by large well established companies that are unlikely to grow significantly in the short term. These are often some of the lowest risk stocks to buy. Investing profits back into the business is often not prudent. Examples of these companies include Exxon Mobil and Walmart. If you click on these links, you can see on google finance the dividends these companies have paid in the past.

However, with smaller companies that are still growing rapidly, it is often higher yielding to put the profits back into the business to aid further growth.

It is important to be aware of the fact that a company is never required to pay a dividend, and past dividend payments are no guarantee of future dividend payments.