The Pros & Cons Of Dividend Stock Investing

Up to date on Might twentieth, 2025

This can be a visitor contribution by Ethan Holden, with updates from Bob Ciura.

Investing in dividends permits an investor to benefit from many points of investing whereas shifting away from reliance on inherently risky inventory market costs.

Dividend investing consists of a technique which emphasizes excessive dividend shares to create revenue.

These dividends are the (sometimes) quarterly funds that firms supply to their shareholders, partially as an enticement to maintain their shares.

Dividends are paid based mostly on a per share foundation (every share is entitled to a dividend cost). Buying shares earlier than the ex-dividend date is the deadline for receiving the subsequent dividend.

Word: Some shares have paid rising dividends yearly for many years.

The Dividend Aristocrats are a major instance. They’re shares within the S&P 500 with 25+ years of consecutive rising dividends.

You may obtain your free record of all 69 Dividend Aristocrats by clicking on the hyperlink beneath:

Professional #1:  Insulation From Inventory Market Volatility

One of many many benefits of investing based mostly on dividends is the insulation from inventory market volatility. The inventory market can hardly be predicted with any accuracy. Shares fluctuate based mostly on the fickle calls for of buyers and the actions of huge hedge funds and different giant firms.

Well-known investor Warren Buffet believes that the actions of those actions can’t be predicted by anybody. He as soon as argued that no investor may outperform the final market over a interval of ten years utilizing technical evaluation.

Shares rise and fall as a consequence of individuals making an attempt to foretell which occasions will tip the inventory market and which occasions will make securities extra worthwhile.

The typical investor doesn’t have the identical expertise and entry to data that many institutional buyers have and is at a drawback in these guessing video games as nicely.

Additionally, they don’t have the identical ease of liquidity of their inventory purchases. Most brokerages earn money with each inventory commerce.

An investor could must pay a couple of {dollars} each time they purchase or promote, reducing into any returns that they hope to obtain from shopping for low and promoting excessive.

Professional #2:  Different Fluctuation

Dividends don’t fluctuate in the identical method. At its coronary heart, dividend investing is predicated on a handful of presumptions which are baked in each quarter.

An organization’s dividend may be predicted based mostly on quite a lot of components. Corporations which are younger and in a development part count on that their quickly rising inventory value will woo buyers and that they won’t want to supply any enticement to maintain these buyers. Because of this, these dividends might be small.

As well as, weaker firms of any measurement is not going to have the assets to supply a dividend.

As a substitute, an investor can take a look at an organization with secure, dependable money flows and a historical past of paying dividends and conclude that they’ll supply a dependable dividend into the long run.

Professional #3:  Dividends Can Present A Dependable Revenue Stream

A dividend investor can use the reliability of dividends to pursue portfolio development differently than the standard inventory market. Conventional inventory market beneficial properties are sometimes a fluctuation that can’t be simply predicted. Positive aspects will typically be punctuated by eventual losses.

Within the case of dividends, the magic of compounding is far more essential. Compounding refers back to the method curiosity will increase, particularly when dividends are reinvested as a part of a DRIP plan.

The compounding impact is most clearly displayed within the rule of 72.The rule of 72 is a heuristic used to seek out the approximate time in years it is going to take an funding to double given a sure rate of interest.

Buyers who use a DRIP can discover the approximate time an funding will double from dividends alone, with out factoring in any development, by dividing 72 by the present dividend yield.

For example, a inventory with a 7% yield – like Dividend King Altria (MO) – would double from its reinvested dividend alone roughly each 10.2 years.

Throughout occasions of uncertainty and with financial savings accounts that solely yield a couple of tenths of 1 % per 12 months, an method to investing that may double an investor’s cash that shortly might be significantly fruitful and enticing as an funding alternative.

As well as, blue chip dividend shares can present a dependable revenue stream just like different types of investing resembling actual property or bonds.

Dividends pay a set variety of advantages on a date that may be predicted months prematurely. They will present tidy sums of revenue for individuals who could also be fascinated with dwelling on funding revenue over an prolonged time frame. These people don’t need an enormous lump-sum cost or the periodic promoting of inventory.

Quite, they wish to hold their inventory’s preliminary funding worth whereas additionally bringing in a supply of revenue that may both increase or substitute their employment revenue. This type of funding cost may even be tailored to be extra common.

One method to investing in dividends is named a “verify a month” technique. This technique is tailored for individuals who desire a common revenue from their investments and don’t wish to benefit from DRIP shares.

The “verify a month” refers to how inventory purchases are structured. Corporations declare and pay dividends at completely different occasions all through every of the 4 quarters throughout a 12 months.

If correctly arrange, a fund may be structured the place the investor receives a special set of dividend checks every month, that means a fixed stream of revenue.

Individually, the webinar replay beneath covers methods to generate rising passive revenue from dividend investing intimately.

Con #1: Much less Potential For Large Positive aspects

One draw back to investing in shares for the dividend is an eventual cap on returns. The dividend inventory could pay out a large charge of return, however even the very best yielding shares with any type of stability don’t pay out greater than ~10% yearly in right now’s low rate of interest surroundings, besides in uncommon circumstances.

A high-growth inventory technique may result in huge losses, however the ceiling on beneficial properties is far larger. As an example, a person who was selecting shares and purchased Apple within the Nineteen Eighties at a big stage can be extremely rich by now.

Shopping for a lot of high-dividend shares is not going to result in development at an analogous stage. It is usually extremely simple for a dividend to go down over time as an organization’s development mannequin adjustments.

Even when an organization has the very best dividends manageable, they nonetheless is not going to have the type of upper-limit complete return potential that almost all development investing approaches can have.

Con #2: Disconnect Between Dividends & Enterprise Progress

One other potential draw back of investing primarily for dividends is the prospect for a disconnect between the enterprise development of an organization and the quantity of dividends the corporate pays.

Widespread shares are usually not required to pay dividends. An organization can reduce its dividend at any time. Sometimes, dividend cuts happen when an organization is struggling and can’t pay its dividend with its money flows.

However that’s not all the time the case…

Typically an organization will scale back its dividend as a result of it adjustments its capital allocation coverage. An organization could consider it has higher makes use of of money than to pay a dividend to shareholders. As a substitute, the corporate could make investments extra within the development of the enterprise, fund an acquisition, pay down debt, or repurchase shares.

In the entire above examples, the corporate may very nicely be seeing underlying enterprise development and nonetheless determine to scale back its dividend. A con of dividend investing is that dividends from widespread shares are usually not legally required, and subsequently may be discontinued at administration’s whim.

Con #3: Excessive Yield Dividend Traps

Exceptionally excessive yielding dividend securities could look interesting… However they typically carry outsized dangers of a dividend discount. Extremely-high yield securities with a excessive threat of decreasing their dividend funds are referred to as dividend traps.

An investor should do his homework with a purpose to determine the true nature of an organization’s inventory yield. Since yield is a fraction depending on each dividend and value, a dividend could appear extremely excessive despite the fact that it’s about to be reduce the subsequent time an investor is eligible for a dividend cost.

For an excessive instance, say an organization’s dividend is $1 and the share value is $50. The preliminary yield can be 2%, not significantly enticing for a dividend-based technique. But when the inventory value dropped to $10, the yield on the inventory would then be 10%, prime territory for a yield hungry investor.

Nonetheless, it’s clear that the corporate didn’t intend to pay a dividend that was 5 occasions the yield it had initially believed it might be.

Due to this fact, if there have been no compelling motive for the share value to extend nearer to $50, the corporate would most likely drop the dividend considerably for the subsequent ex-dividend date, making the funding not practically as profitable as it might in any other case be.

Investing in dividends shouldn’t be an method buyers take with out first doing their due diligence. This method requires a substantial period of time and analysis – particularly when investing in particular person shares.

Understanding concerning the positives and negatives of dividend investing is an efficient first step to determining if this method to investing is best for you.

Additional Studying

If you’re fascinated with discovering high-quality dividend development shares appropriate for long-term funding, the next Certain Dividend databases might be helpful:

The main home inventory market indices are one other strong useful resource for locating funding concepts. Certain Dividend compiles the next inventory market databases and updates them month-to-month:

The 8 Guidelines Of Dividend Investing