The dividend is the amount of money that a corporation listed at a stock exchange distributes to its shareholders. The dividend is a mean for the company’s owners to participate in the company’s success.
Frequency of Dividend Payments
In the US, investing in dividend-paying stocks, e.g. as part of a retirement plan, is very common. Thus, the dividend culture is very well developed. Large companies pay dividends usually four times a year. But there are exceptions: some companies don’t pay dividends at all while others pay monthly (e.g. Realty Income). More frequent payouts allow for a more even income throughout the year. In addition, in the case of an unforeseen event, a company may have to cut the next dividend shortly before announcing the dividend. This means in the worst case you hold the shares for one year and at the end of the period you loos some or all of the reward. More frequent payments reduce this risk for the shareholder.
Payday and Dividend Ex-day
The dividend payday is the day on which the dividend is payed to the share holders.
The dividend ex date is the date to decide who gets the dividend and who doesn’t. Whoever holds the share at the end of the trading day BEFORE the dividend ex-day will receive the dividend on the payday – even if he sells his shares on the ex-day. If you buy the share on the ex-date you only will receive the dividend after the current one.
ATTENTION: Usually, it does not make sense to buy the shares of a company short before the ex-date only because you want to receive the dividend. Normally, the share price on the dividend ex-day falls by exactly the amount of the dividend per share. This is because new investors who buy shares on the ex-date or later are not entitled to the dividend payment. So to say, “the money has already left the company”. Moreover, remember that dividend payments might be subject to taxes (depending on your local laws).
A “dividend aristocrat” is a company listed in the S&P 500 index that has increased its dividend payments for the past 25 or more consecutively years. If the stock is not in the S&P 500, it is referred to as the “dividend champion”. A “dividend contender” is a corporation that has increased its dividend for at least 10 consecutive years.
The payout ratio is the relation of the payed-out dividends to the company’s profit. In a healthy company, this is usually between 30-60%. If too much of the profit is distributed it can endanger the company’s success. A company shouldn’t have to borrow money in order to be able to pay the dividend. Some companies might do this in a crisis to retain the status of dividend aristocrat, for example.
Dividend increases over a long period of time are what makes investing in dividend stocks so exciting. “Yield on Cost” means the dividend yield on the originally paid price per share.
For example, if you bought a share of 3M in 2015, the company had increased its dividend by 43% from $ 1.025 per share to $ 1.47 per share by early 2020. Assuming the purchase price in 2015 was $ 150 per share, the dividend yield was 2.7%. By simply holding the share and increasing the dividend, the “yield on cost” rose to 3.9% by 2020.
When buying a stock, one shouldn’t be blinded by the initial dividend yield alone. For example, tobacco companies traditionally pay very high dividends. This can be up to 7-9%. However, many of these companies only increase their dividends symbolically. Younger companies that are experiencing strong growth, on the other hand, often only pay 1-3% dividends, but increase them by over 10% per year (dividend growth stocks). If you join one of these companies early on, it can happen that after many years you will receive a 20% dividend on the original purchase price.
The prerequisite for dividend increases is that a company grows and increases its profits. This is the first thing to consider when choosing a dividend stock.