Money for nothing

Birthdays are wonderful things.  Not only do you live longer the more you have, but those celebrations often result in gifts to you -- just for being you!  Who doesn’t like that?

The great part about dividend paying stocks is they act much like friends and relatives by giving you a gift just for being you.  For you holding the stock, that is.  Better still, dividend stocks provide those gifts every quarter.  Heck, some do it monthly.  The frequency of dividend gifts beats that of birthdays, hands down. 

I can get a strange potholder doily from good ol’ Auntie Em once a year OR I can get cash from XYZ Corp. every three months.  I may love Auntie Em to Pluto and back, but come on, a potholder doily once a year vs cash every 90 days?  No contest.

Some dividend paying firms will “up the anti” by increasing their dividend payments periodically.  These earn the moniker Dividend Growth Stocks (DGS).  Financially solid companies might increase payments every year.  Those that have done so for 25+ years are called Champions and may be considered Cash Cows or Gift Horses.

 

This dividend growth practice would be the equivalent of Auntie Em giving me one potholder doily for my birthday this year, two next year, three the year after and increasing the number of doilies each year into the foreseeable future.  However, cash from dividend paying firms offers greater utility than I might expect from a growing stack of doilies.

The fantastic part about dividend firms is that if you automatically reinvest the dividend payments those payments beget additional dividends the next quarter.  This is called compounding and according to Mr. Einstein it’s the most powerful force known to man.  Auntie Em’s doilies don’t compound. Thankfully. 

If you’ve latched onto a DGS the natural dividend compounding effect is accelerated by the increase in dividend payments each year.  Even if the rate of dividend growth is low as a percentage of the dividend payment, small increases result in large changes over time when left to compound.

 

For example, assume two dividend payers have a rock steady stock price for a 10-year period.  One dividend payer offers a flat 4% yield every year.  However, a DGS with a 4% yield that increases its dividend by 3% annually yields 4% at the end of the first year, 4.1% the end of year two, 4.2% the end of year three and so on.  Be the end of year 10, the dividend yield approaches 5.2% which is 30% higher than when it started.  You get that increase just for holding the stock which is money for nothing.

The thoughts expressed here are those of the author, who is not a financial professional.  Opinions should not be considered investment advice.  They are presented for discussion and entertainment purposes only.  For specific investment advice or assistance, please contact a registered investment advisor, licensed broker, or other financial professional.