There are a few options when you receive your dividends. Should you DRIP invest your dividends? Do you take the cash or do you receive more shares in that company? To Drip or not to Drip, that is the question?
What is DRIP?
DRIP is short for Dividend Reinvestment Plan. When you own shares in a company, many of them pay a dividend. In a DRIP, instead of getting cash for your dividends, they automatically buy more shares of that stock. Many companies offer DRIP programs directly and some brokerage accounts have similar DRIP programs for a selection of stocks.
So, if you own 100 shares of a stock, and the next dividend payment is 1% of the value, instead of getting cash, you get 1 more share in that company. Some can even give you a fraction of a share. If the dividend is worth 3.7 shares, the number of shares you have will increase by 3.7.
Why DRIP Invest
There are a few reasons why a DRIP program may be good.
- Your money is automatically invested. Since you already picked out the company, the shares are bought without you having to think about it.
- Some DRIP programs may give you a discounted price on the shares. Buying shares at a discount is always nice. That will adds up after a while.
- Often, the shares can be bought without a commission on the trade. So, if your dividend payment is $50, paying a $10 commission to buy $50 worth of stock is a lot of money.
Why Not to DRIP Invest
There are a few good reasons not to DRIP.
- You are now living off of your dividends and want the cash.
- You want to invest your money yourself. Maybe that company makes up too much of a percentage of your investments, and investing more money with them goes against your plan.
- The stock is overvalued and you think you can get a better price.
- There is a better stock to buy today.
- You want to build up cash in your account.
It is often said that the total return of the S&P500 is about 40% from dividend reinvestments. Therefore, enabling DRIP on your investments can help your dividend stock portfolio grow. Reinvesting your dividends to generate more dividends is a great way to increase the value of your stocks.
However, I always thought the argument that you have to reinvest your dividends in the company that paid you was annoying. If the date you invest in stocks is random compared to the ex-dividend date, you might actually get more dividends from investing yourself. Here is a chart and explanation:
A common dividend path is: You earn your dividend on January 1st. Then you receive your money February 1st. So, on February 1st, instead of cash, you get your new shares of stock. Then those new shares will earn you your next dividend payment on April 1st. So, it takes 2 months for those new shares to earn you their 1st dividend payment.
When you buy shares of a stock, let’s assume you ignore the ex-dividend date. You focus on buying the best company at the best price. In theory, your purchases, on average, should be the midpoint between the 2 ex-dividend dates. Half way between the dates is 1.5 months until the next ex-dividend date. Comparing the 2, the DRIP investment takes 60 days to earn their next dividend payment, while shares you buy should earn their next dividend payment in 45 days.
I like to choose my investments. Therefore, I do not DRIP. The process of buying more shares is fun for me. Also, I have stocks that make up a large percentage of my portfolio. I do not want to buy more shares of those companies. I would rather take the money and buy shares in another company that better fits into my plan. Also, good dividend stocks go on sale all the time, for various reasons. If I can by a dividend stock I want at 20% off, that is worth a lot of savings.
Plus, I am always trying to increase the cash in my investment account. Every time I buy shares, the money I have to invest goes down. Therefore, I always need more money to invest. And I do not know when the next stock market correction is coming. Next Week, 8 months from now, 2 years. However, I like being ready for a stock market correction, so I can buy a lot of companies on the cheap.
And I buy more share pretty regularly in the stock market. So, the money from a dividend payment is not sitting in my account too long.
What is good for you
Well, this is a good question. For you, it depends on how you invest. Are you looking at the stock market daily or 3 times a year? Do you want to pick 1 stock and set it and forget it, or do you want to more actively control your investments? Maybe you want a hybrid approach. These 3 stocks you want to DRIP, the other 3 stocks you do not want to. For you, it depends on what you want.
Do you like to receive cash or more shares for your dividends? Please feel free to share your thought below.