Let’s talk about dividend stocks.
When you purchase a share of a company, what you’re putting money toward is owning a piece of that company. Ideally, you’ll then be rewarded with an increase in value when the stock price shoots up – which is when you can cash in on your investment.
Some investors, though, prefer to earn their money in the market another way: with dividend stocks. In short, these are companies that pay out dividends (often in the form of cash) to their shareholders.
For income-oriented investors, dividend stocks are a great way to make sure you see some return on your investment – so long as the company keeps paying out.
Dividend stocks are companies that pay dividends (usually cash) to their shareholders, typically two to four times per year. There are several reasons a company may offer a dividend: to draw in quick cash, dilute their price per share, or increase their trade volume. These payments may take the form of cash, additional stock, or even property, in rare cases.
When looking at dividend stocks, it’s important to keep in mind four dates:
- The declaration date is when the Board of Directors sets the next dividend payment and amount
- The ex-dividend date falls two days before the date of record, and is the last day investors have to purchase stock and receive the next payout
- The date of record is when the company checks its roster to determine who will receive the upcoming dividend
- The payment date is when investors receive their dividend
Furthermore, you want to make sure that the stock doesn’t carry too high of a yield for your portfolio (which may signal high investor turnover or unsustainable payouts) or a payout ratio over 100% (which indicates the company is going into debt to cover its dividends).
When – and Why – Do Companies Pay Dividends?
Typically, stocks that pay dividends are issued by well-established companies with consistent profits. It’s rare to see startup or growth-oriented organizations distribute dividends, as these companies usually prefer to reinvest their profits and expand their operations.
Furthermore, companies with debts on their balance sheet may opt to allocate incoming revenue toward decreasing their liabilities, rather than toward their shareholders.
Companies that aren’t sure they can maintain their payments may also refrain from offering dividends to avoid slashing payments in the future.
For those companies that offer dividends, they may do so for a variety of reasons. Some may be in need of quick cash and throw out a line to reel in more investors (the bait here being the dividend payment). Others may desire to lower their price per share to increase liquidity and prompt increase trade volume.
How Do Dividend Stocks Work?
For every share of a dividend-paying stock that you own, you receive a dividend payment. How much you receive is dictated by the company and how often they pay out dividends.
To give an example, let’s say that you own one share of the Hairy Walrus Company. They pay out an annualized dividend of $1.00 per share on a quarterly basis. This means, that once per quarter – or four times per year – you receive $0.25 for every share that you own.
While this may not seem like a lot on its face, that money can add up quickly – especially if you reinvest your dividends to purchase more assets.
Two Kinds of Dividends
There are two types of dividends you may receive from your shares.
The first and most common type is cash dividends. This money is paid out from the company’s profits and is divided among stockholders according to how many shares they own. Individuals who purchase preferred stock will receive their payments first, followed by common stock shareholders.
There are also rare occasions when a company may pay out one-time dividends. Typically, these payments follow instances such as litigation, acquisitions and losses, or investment liquidation. One-time dividends may come as cash, stock, or property.
Dating Your Dividends
There are four important dates to keep in mind when it comes to stock-paying dividends.
The declaration date is when the Board of Directors approves and announces the next dividend, date of record, and payment date. The process creates a liability on its balance sheet, as the announcement effectively constitutes a debt to its shareholders.
The ex-dividend date is the cutoff for investors to buy into a company’s stock and receive a dividend on the next payment date. Investors who don’t own shares by the ex-dividend date will not receive the upcoming dividend payment; however, the person or institution they purchase the shares from will. This date typically falls on the second business day before the date of record.
On the date of record, the company must review its books to determine who holds stock. Any investors not listed on their rosters on this date will not receive a payout on the payment date.
The payment date is when shareholders receive their dividends.
How Often Do You Receive a Dividend Payment?
Many U.S. companies choose to pay out dividends four times per year, or quarterly. This aligns with the company’s legal obligation to report their earnings four times per year.
However, especially outside the United States, some companies may pay annually (once per year) or semi-annually (twice per year). A few also pay out on no set schedule. These are known as “irregular dividends.”
There are also times when a stock or fund pays out monthly, such as with companies that are designed (or legally required) to offer consistent income to their shareholders. Master-limited partnerships and real estate investment trusts are two of the more common examples of these types of organizations.
How Do I Find Dividend Stocks?
Investors interested in dividend stocks can screen investments on any number of financial sites, as well as on brokers’ websites.
When examining the results, it’s important to check under the hood of each investment to see if it’s a good fit for your portfolio. Be sure to look out for:
· Extremely high or questionably low dividend yields. Too high of a yield may be a red flag signaling about the state of the company’s finances. Typically, a dividend yield of 10% or higher indicates a risky situation, such as high investor turnover (less investors = a higher dividend yield) or unsustainable payouts.
· The stock’s payout ratio (how much of its income goes toward dividends). A ratio over 100% is a sign that the company is going into debt to pay its dividends.
· How often the company pays out dividends (and don’t forget the various dividend dates!)
· The company’s history regarding dividends, such as if they’ve ever slashed or raised payments.
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