You collect cash from the dividends in your portfolio. But you don't need the cash. In fact, you'd rather just have more stock. So you apply a dividend reinvestment plan, wherein your dividends just go back to buy more stock, usually already-trading secondary stock from one of the brokerages that makes a market/trades in the stock you're buying, after you've set up an account with them. Or the function happens in the brokerage account in which you hold those divvy-bearing stocks.
The sad news is that your dividends will still get taxed, so you'll have to come up with cash to pay the tax, meaning that you actually lose cash each year, paying taxes on dividends you received which are taxable, and which then go back to buy more stock.
But if you're disciplined and don't need the cash, this can be a great way to goose long-term returns on your investments. By, yes...reinvesting.
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Finance: What is the Math of Dividend Re...2 Views
and finance Allah shmoop What is the math of dividend
reinvestment All right people While some stocks pay dividends you
know a bit of cash and investors get for holding
the stock It's little incentive Teo you know keep holding
onto the shares You could take that cash into whatever
you want with it but you can also reinvest it
which means buying mawr of the stock you already own
So the concept may seem boring but it's good way
to increase your stock holdings And it's like your shares
or having little baby shares all without you putting MOHR
of your own money into the process We'LL stock prices
move around a lot and as such the math behind
dividend reinvestment can get complex ish or well sometimes just
plain ugly So let's do a problem here You buy
thousand shares of Alpaca Corp and Alternative milk provider right
They provide milk from alpacas of course but also lamas
goats and yaks Well here's the stock performance over the
two years or eight quarters that you held the stock
A quarter is a three month period by the way
At the end of the first quarter the stock was
at one o two fifty then at the end of
Que Tu shares have risen a one o five and
stock kept going up in Q three reaching one of
seven five by the end of period Still climbing in
queue for alpaca reached one ten by the end of
that year Right next year Same basic story of stock
reach one twenty share after the end of the second
year and that's its performance The stock continue to pay
its fifty cent per share each quarter in Dividend Doe
It held the dividend steady for the full two years
so each quarter the company's sends you cash of fifty
cents per share for each of your thousand shares are
five hundred bucks each quarter You can choose to reinvest
that dividend each quarter The amount of stock that those
dividend repurchase sings by with that five hundred box Well
it depends on the stock price of time Right when
you got the first dividend payment while shares were at
one o two fifty five hundred divided by one or
two fifty share and that's about four point eight shares
So after this dividend reinvestment you have one thousand four
point eight ish shares And yes you can have point
eight of a share or something That's how the world
works OK under the second quarter you get another fifty
cent dividend per share in the stocks out one o
five Well remember you no longer have a thousand shares
You have a thousand four point eight shares because of
that dividend reinvestment thing in the first quarter So this
time around you get five hundred two dollars forty ish
sense in dividends Reinvest those dividends and while you get
another approximately four point eight shares something like that may
be a little more The process continues As long as
you keep the dividend reinvestment going you buy shares with
the dividends giving you Mohr shares which then increases your
dividend which gives you more money to buy more shares
Well the main complicating factor in this calculation is that
the price of the stock keeps moving It makes it
difficult to have a clear formula for how many shares
you get for some set amount of dividend payment right
You have to just do the math a quarter at
a time So what's the advantage to all this But
why reinvest instead of just taking cash simplifying our example
of it You're getting about five shares a quarter for
eight quarters in reinvesting your dividends So at the end
of two years you have forty more shares of alpaca
instead of having kept the cash dividend on your own
But say you just kept the cash well on a
thousand shares at fifty cents a share each quarter over
eight quarters That's four grand Also you still have the
thousand shares of stock that you owned originally now worth
one hundred twenty bucks each or one hundred twenty grand
Add in the four in dividends and you've got one
hundred twenty four grand See how that works That's the
map But here with dividend reinvestment and ignoring all kinds
of taxes and commissions and other you know realistic noise
well you'd have a thousand forty shares at one hundred
twenty dollars each for a total value of one hundred
twenty four thousand eight hundred bucks and change You'd have
made another eight hundred ish dollars by reinvesting your dividend
and this presumes that you spent all of the cash
dividends out to you when you didn't buy back shares
Ravan reinvesting that cash somewhere you know useful So why
does all this matter Well the S and P five
hundred pays about a two percent dividend in the modern
era Maybe three That is The median company pays about
that amount The SNP is Justin Index It rolls up
each of those five hundred companies into a single tracking
device Some pay a lot Maurin Dividend wanting some pay
a lot less some pain Nothing Hi Google Hi Amazon
Hi Facebook We're looking at you non dividend payers anyway
Since markets go up over time dividend reinvestment has made
relative returns better for those buying Mohr shares with their
dividends However it usually takes a long time for those
differences to really show up in total value or returns
And all of this is dependent on stock's going up
which doesn't always happen tends to happen in the long
run But in short first well who knows also tends
to work on an average here Yes and P five
hundred tends to trend upward over the long haul meaning
that out of five hundred major companies you can expect
the median one to show stock gains of about eight
nine ten percent year over time But in that group
while some stocks go down some go away Well if
you're a dividend reinvesting in one stock you return then
depends on what that one stock did Alpaca is going
up now because fru fru types like to stock their
fridges with yak milk But what if Yu Lan musk
develops a cheap lab created chemical alternative Teo yak milk
You know the bottom line dropout of alpaca dot com
And then you might wish you'd taken the cash and
not reinvested dividends Yakety yak as they say or you 00:05:11.895 --> [endTime] know something like that Ah
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