Investing in dividend stocks

SSL in the money

with Jodi-Kaye Allen

Tuesday, October 20, 2015

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When deciding to invest in companies, choose companies that make money for their shareholders. Some companies reinvest their profits in the company themselves, some acquire smaller companies and some companies pay dividends.

A dividend is a payment made to a shareholder of a company, the shareholder is paid a portion of the company's earnings in proportion to the amount of stock they own. Its like the interest earned on your savings account at the bank.

Dividend investing is all about income generation. By purchasing stocks in a dividend-paying company, you have invested in something that is making money. Dividend stocks are attractive for investors who make a living off of their investments. Instead of buying and selling stocks with the goal of making capital gains, dividend investors can count on receiving payments every few months (dividends are generally paid quarterly). However, not all stocks pay dividends, and not all stocks which pay dividends are worth owning, so do your research. Keep in mind that public companies have to announce their financial information, so this information will be readily available to you.

Double gains

With dividend stocks you can make gains in two different ways at once: capital gains, which is the increase in price of the share (which mean gains for you as a shareholder); and also when the company pays dividends, paying you a portion of the profits (more gains for you as a shareholder).

For example, if the share price of company X rises by five per cent and the company decides to pay dividends of four per cent, you will gain nine per cent profit on your investment (before taxes , where applicable of course). The choice is now yours whether to reap your total gains or reinvest your dividends to buy more shares.

An added bonus advantage of having dividend-paying stock is they provide you with a little cushioning in the event that the share price falls. If the share price falls by five per cent and the company pays a four per cent dividend, you lose only one per cent of your investment.

Bear in mind that companies are free to decrease dividends, so this "safety net" is not guaranteed, BUT in most cases you are safer than if you were relying solely on market movement to gain profits.

Steady income

Most forms of investment only offer unrealised profits until you sell or close the trade. In other words, until you sell the stock or exit the trade, you can see the profit on your statement, but it is not available to you as yet. You cannot spend it or take it to the bank.

Dividend stocks are different, the dividends are paid out as cash and are not affected by market movements. Dividends are your money, and once paid to you they cannot be taken back from you.

Gain while you own

Stocks that do not pay dividends only pay cash to you if you sell them. Unfortunately, this also means relinquishing your ownership in the company, which you may not be willing to do, especially if you have high expectations for the company. With dividend stocks you receive cash returns on your investment while holding onto the stocks you already own, allowing you to gain as the company grows and appreciates in share value.

Fight against inflation -- WIN (Whip Inflation Now)

One of the best ways to keep inflation from taking a chunk out of your investment earnings is to invest in dividend-paying stocks. Let's say inflation is at three per cent, a seven per cent annual return on investment would net out to a mere four percent.

This is one of the biggest advantages of dividend stocks over other income-generating investments: they have the ability to withstand inflation. As prices rise, profits also tend to rise and companies can afford to raise their dividend payments.

The power of compounding

Dividends often allow investors the opportunity to take advantage of the power of compounding. This happens when you generate earnings and reinvest the earnings -- technically generating earnings from your earnings and making your money work for you.

Dividend compounding occurs when dividends are reinvested to purchase additional shares of stock. This means more stocks and more dividends and the cycle continues!

When building your portfolio, if you have decided to purchase stocks, consider picking a few dividend-paying stocks. They are like ... brawta! However, let it not be the only reason to purchase a particular stock. It is more important to own stocks in great companies than to gain dividends of six per cent or eight per cent, or even 10 per cent; often shigh dividend yields are from companies with real financial troubles and may be a riskier investment.

A two per cent dividend yield from a company with a steady annual growth of between 10 to 12 per cent annually is generally a great investment for your portfolio. Invest in your financial freedom today.

Jodi-Kaye Allen is a processing associate at Stocks and Securities Limited.



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