12
$\begingroup$

Dividend payout from stock makes the stock price fall by the same value. It is just rearranging your money instead of getting real interest like in bonds. Then why do some people aim at high dividend stock?

$\endgroup$
6
  • 23
    $\begingroup$ A dividend is real money. Stock value is potential money. $\endgroup$
    – Mark
    Sep 2, 2023 at 20:01
  • 5
    $\begingroup$ "it is just rearranging your money instead of getting real interest like in bond." Huh? You think the market value of a bond doesn't decrease after an interest payment? $\endgroup$ Sep 4, 2023 at 3:54
  • $\begingroup$ Interestingly, another, highly active question asks the exact opposite. $\endgroup$
    – AKdemy
    Sep 4, 2023 at 4:22
  • $\begingroup$ Note that the stock price increased because there was going to be a dividend. $\endgroup$
    – jcaron
    Sep 5, 2023 at 10:16
  • 1
    $\begingroup$ It should be noted that in a stable company paying dividends every year, stock price drops by the same amount of the dividend having being paid, but after that it starts rising steadily until the next dividend. Of course, perfectly stable companies doesn't exist and that movement adds to all other movements the stock may have, but paying dividends every year just adds a see-saw movement to stock price evolution. $\endgroup$
    – Pere
    Sep 5, 2023 at 15:20

10 Answers 10

17
$\begingroup$

Startups and heavily growing companies usually invest their earnings themselves, rather than paying dividends. Established companies in stable markets don't have as much opportunity to invest the earnings without expanding to new business areas, so they more often pay them out as dividends.

Thus by selecting stocks by dividend payment history, you are choosing established, stable businesses. Not so much room for surprise gains, but often a more predictable return on investment.

Naturally there are other ways to go about analyzing stock choices, but looking at the dividend history is easy to understand and very concrete in the form of dividend yield.

$\endgroup$
12
$\begingroup$

The original purpose of stocks is to pay dividends.

If no stock, ever, paid any dividends, you'd be left with a tulip bubble - the price of a good inflating for no other reason than the expectation of selling it even higher.

That is a zero-sum game: for the price of tulips (or other items that never generate money) to grow, the extra money has to be made elsewhere first, only then can it be invested into tulips or non-dividend-paying stocks.

Paying dividends is what a mature, non-speculative stock does. Hot speculative stocks are, or at least used to be, traded with the implied expectation that the stock will eventually turn into a valuable mature stocks that does pay dividends.

Not always -- some companies are valuable for reasons other than the profit they make. Large social networks can be valued for the personal information they collect and their ability to influence the public opinion (thus elections, thus tax money distribution) by filtering the post feeds. Some disruptive companies are valued for the expectation that an incumbent will buy them out to eliminate the threat to their business.

That said, for a company without undue political influence, or direct threat to someone large, or something else special - for your average non-unique widget factory - the idea is usually to make profit and share it with the investors.

$\endgroup$
12
$\begingroup$

Even if the total discounted return on a no-dividend stock and a stock paying dividends is the same, and we assume the tax system is completely neutral in this regard, the dividend-paying stock will pay a portion of that total return over a number of time periods which may be preferable for some people over getting a lump sum when you sell the stock. Some might want to maybe use the dividends to pay for some of their regular expenses.

$\endgroup$
4
  • $\begingroup$ I think Ben Felix would disagree with this. You could sell enough of the stock to generate the corresponding income you would have gotten from the dividend. $\endgroup$
    – Andy
    Sep 3, 2023 at 18:19
  • 1
    $\begingroup$ @Andy how we are talking about 2 stocks with same discounted value or the return, otherwise it’s apples and oranges. Please show me the math for stocks with the same discounted value that shows what you suggest $\endgroup$
    – 1muflon1
    Sep 3, 2023 at 22:31
  • $\begingroup$ @Andy and suffer transaction costs every single time as well as having the (mental) overhead of having to set up the transactions each time (or once automatically) $\endgroup$
    – Hobbamok
    Sep 4, 2023 at 9:05
  • $\begingroup$ @Andy Dividends can be reinvested. If I have 100 shares and get the dividend and spend it on shares: Now I have 102 shares. I own a bigger portion of the company. If I were to sell my shares instead of receiving a dividend I wouldn't be eligible for as much dividend as next year and reinvesting would just be repurchasing the shares I just sold. $\endgroup$ Sep 4, 2023 at 10:51
5
$\begingroup$

Paper profits and asset values can turn out to be just that, and not actually exist in the real world. There’s always a risk that a high-growth company will suddenly collapse. Paying annual dividends requires real cash, and so is a guarantee that the company’s actual financial position is reasonably good.

$\endgroup$
4
$\begingroup$

There have been many research papers on why some individual investors prefer dividends {1,2}. E.g., see Table 2 of {1}, which surveyed 555 individual investors over ~20 questions. Excerpt:

enter image description here


References:

$\endgroup$
2
$\begingroup$

Ultimately, the value of a stock is the time-adjusted value of all future payments the owners would receive as a reward for owning it. If at the end of a year, a company has paid a certain dividend per share, but its assets at the end of the year are comparable to those at the start, then it will be much easier to judge how much the money has really earned than if the function doesn't pay dividends but instead invests in itself. Such investments should be expected to result in an increased stock price, but it's unclear how much of a change would be appropriate and how much would be due to irrational exuberance.

$\endgroup$
2
$\begingroup$

Even though the price of the stock drops by the amount of the dividend when the dividend cut-off date has lapsed, this does not mean the dividend is just an illusion.

As a simplification you can assume that the stock price increases by 1/365th of the yearly dividend per day. And then on the day of the payout the price drops back to where it started. Which means you get the dividend on top. It's not eaten up by the price drop if you owned the stock the whole year.

If, however, you buy the stock just on the last day, you don't get to keep the dividend, which is only fair because you didn't own the stock while the dividend was being earned.

$\endgroup$
2
$\begingroup$

An old-fashioned principle for remaining wealthy is: Don't spend down your capital. In the context of stocks, this is often interpreted as, "It is okay to spend your dividends, but always reinvest your capital gains."

Most companies that issue dividends aim to be able to "sustain their dividends". They are embarrassed if they have to cut, suspend, or cancel their dividend.

$\endgroup$
2
$\begingroup$

Because it feels good.

As simple as that really, a dollar in the hand is better than an ambiguous share in a company.

Also if you get paid the money instead of it being reinvested into the same company, you can choose to invest it in the same company, any other company, or like food and stuff which is also good. Sometimes DRP's exist and you can use the dividend to buy stock in the same company, but at a discount.

$\endgroup$
2
$\begingroup$
  1. Retirees use the dividend as income.
  2. High income earners use "franked" dividends to reduce tax.

Many people are not employed and have no income, yet have money. If they pick the right investments they can get more return from the dividends than from any bond or bank account; to pay everyday bills and living expenses. Simulaneously there is potential to retain the value of their money via growth. However there is, of course, more risk than a (govt guaranteed) bank account.

Their goal is a reliable income stream. Some execs are so sensitive to the majority of their shareholders being retirees living on the dividend, that they choose to pay routine and consistent dividends than record profits and growth.

Similarly some people earn income which attracts a lot of income tax. And some dividends are marked as "tax already paid". After considering all the factors on an individuals personal financial situation, the after-tax value of a tax-paid dividend, i.e. "pocketed return", could be more advantageous; the tax rate on the dividend was lower than the tax rate that would have been applied to the individual.

$\endgroup$

Not the answer you're looking for? Browse other questions tagged or ask your own question.