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Dividend Yielding Stocks – I Learn Something New Every Day

I really do learn something new every day.  It’s not too hard when it comes to stocks or investing since those subjects usually bore me, but I received a comment on an older post, Passive and Residual Income Defined, that got me interested, and JT from Money Mamba saved the day!

Adi:  It’s true, passive income is the most rewarding by far. I earn only around $250 a month from passive income but I care about this so much more than what I earn from my other sources.

Question about the stocks: So far as I know, the dividend is subtracted from the share price every time it’s paid out. So, even though you get cash paid out, your total profit is zero. So how is it that you see dividends as a source of income?

Me: Adi, I have never heard about the dividends being taken out of the share price…where did you see that?

Adi:  When I still had shares, it was normal (at least here in Europe). Every year when you got the dividend, your share price instantly dropped by that amount. They called this the ex-dividend price.

It makes sense in retrospect, because I should think market dynamics would ensure such a drop anyway. Or do you have a rule in the US that you only get a dividend if you hold the shares for a minimum time? But then that time threshold would be when the price drops.

So, I officially declare myself confused.

That’s when I called in the big guns, JT from Money Mamba.  I knew he was way more into the investment arena than I am, so I asked for him to chime in to clear all of this up once and for all:

JT:  The relationship between share prices and dividends isn’t 100% perfect. If you were to do a company valuation, then a company would technically be worth less after a dividend payout than before. If company X has a value of $100 before paying a $1 dividend, then it would be worth $99 after the dividend, as $1 is removed from the company’s cash on a per-share basis.

Whether or not this is reflected in the markets is case-by-case. In general, stocks that pay the highest dividends usually see the biggest drops after an ex-dividend date. If a company pays a $5 dividend on a $25 stock, then tons of investors are going to pile in before the dividend date and leave after. Thus, the buying and selling creates more volatility, and you’re more likely to see the dividend loss to cash priced in after.

In companies where the yield isn’t as high, the ups and downs with dividends are hardly noticed. Few people pile into a company to grab a .5% dividend payout, as the stock could easily move .5% between the purchase date and the dividend date.

The answer to the question can’t be a “yes” or “no” all the time. The price of stocks are based on supply and demand, and people who buy and sell them do them for different reasons. If a large part of the demand for stock is coming from people who want the one-time dividend, then you’re likely to see the price drop after the dividend comes. If, on the other hand, most of the demand for shares comes from long-term investors, the relationship is not at all 100% correlated.

In short, the big-time dividend stocks that everyone loves (Dividend Aristocrats) don’t see this kind of ex-divided pricing activity. However, the smaller companies that pay big dividend yields will, as will those which pay out HUGE one-time dividends.

Historically, dividend paying companies have been the best investments, and I can’t see that trend changing any time soon. The reality is that one dollar paid out in the form of dividends is $1 that can buy you a larger portion of the company. Meanwhile, $1 in cash on the books of your favorite company is just like having $1 in a savings account. Over the long-term, $1 in a company is going to provide much better returns than that $1 in a savings account.

That’s the short of it, but we can get way more finance-y if you’d like. I hope that makes sense.

Oh, and in the US, dividends are most often paid quarterly, so you would have to risk your money 4 times per year to get in and out for one year’s worth of ex-dividend dates.

In Europe, you need to risk it only once. I suppose this is why you see a lot more ex-dividend volatility in Europe than in the US.

So, yes, share prices do fluctuate based on dividend payouts, but it depends on the company on whether it’s noticeable or not.  Good to know.

Am I the only one who didn’t know that dividends affected share prices?

18 thoughts on “Dividend Yielding Stocks – I Learn Something New Every Day”

  1. Adam

    I’d like to clarify that as far as I know, different companies pay dividends at different rates -so it’s not true to say “In Europe, you need to risk it only once”. My various stocks pay dividends at different times, and I’m in Europe. We certainly don’t have a ‘once a year’ deal over here. Quarterly or half yearly is typical.

    I’m definitely aware of stock prices dropping on the day that you need to be holding to stock to get the dividend…just a case of supply and demand.

    Note I’m from the UK

  2. David Hunter

    Good to know! I’ve never heard about this before, either.

  3. cashflowmantra

    Most of the time this isn’t even noticeable in the normal course of trading. Take INTC for example. The dividend is 21 cents. So far the stock has a range of 18 cents so mostly the decrease in price ends up disguised in the normal volatility.

  4. Jeff @ Sustainable life blog

    I knew that the dividend did affect share price, but was not aware to what degree. I’d never thought of people piling into a stock before a high dividend, but I guess if youve got a lot of money, it’s a good strategy.

  5. My University Money

    If your looking to maximize a dividend strategy, I highly recommend looking at a company’s Direct Re-Investment Plan (DRIP). Many of these companies over substantial (I’ve seen as high as 5%) discounts to people who automatically use their dividends to purchase more shares. It is an automatic 5% ROI, and an ultra-easy way to build up your investment holdings. Proponents of dollar cost averaging also like the fact that you are purchasing shares no matter what.

  6. mom

    I was aware and do time buying and selling of stocks based on the stock’s exdividend date. I have never heard of the once a year exdividend date in Europe either.

    I have never seen a company continue to pay a dividend when the company wasn’t growing and posting profits. So I do not see how dividends could devalue a stock, rather it increases its value to share holders and insures a volume of buyers.

  7. I was not aware of this. In this market a lot of people recommend buying dividend paying stocks. The DRIP plan seems like a pretty good deal. I’d still do my homework before buying a stock even though it pays a dividend.

  8. Marie at FamilyMoneyValues

    I was aware, and have always heard that you don’t want to buy stocks right before a dividend, because the price usually can go down after it is declared – I never thought of buying the stock to get the dividend and then selling it afterwards!

  9. JT

    @Adam – Thanks for clearing that up. I have very limited experience in European securities having only purchased them through US-listed ADRs. I was just going off what Adi said about European issues paying an annual dividend.

    The point stands for the differences in annual/quarterly dividend action, but using “European” as a qualifier definitely doesn’t! Thanks for the insight.

  10. jim

    I looked at this a while ago and actually found a stock (AGNC) with a big dividend payout where you can clearly see the price of the stock drop every time the dividend is paid.

    https://www.freeby50.com/2011/03/do-stock-values-drop-after-dividend.html

  11. lurker1

    If you buy stock from a company that is profitable and its dividend pays out, but its price drops the next day, so what? If the general trend of its price is to recover and/or go up in value, you have the dividend and a gain. If it goes down in price, you can buy more, then get more of a % of the dividend for the price and sell when the price recovers or hold it long term and not pay any tax on the gain. Dips in prices of stocks should not be feared, you should take advantage of them. Dividends make holding a stock in volatile times worth the risk, especially when banks are paying about nothing on savings accounts. You should make sure the company is viable and one that you want to invest in first, then worry about dividends. Companies generally reduce or do away with dividends when they are not doing well. The dividend comes from the companies profits or surplus funds, not from the company’s assets, unless they are true idiots. Several companies I own have paid dividends since their inception over 30 to 109 years ago. None have gone under, so they are not devaluing their businesses in my opinion.

  12. Khaleef @ Fat Guy Skinny Wallet

    Crystal, I am so impressed that you called for help when you were asked a question, for which you didn’t have a lot of experience. I think that is a great way for bloggers to help each other, and I have never thought of doing that before (until now)!

  13. Finance Learners

    Investing in dividend yielding stocks can make your portfolio’s returns significantly higher.

  14. Carol Bailey

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