Dividends are a disbursement of earnings from a company to its shareholders.
In less fancy terms, they are a paycheck that you get from owning certain stocks.
Ordinarily, dividends are paid on a quarterly basis but you can also find dividends that are paid out on a monthly basis.
The amount of a dividend is determined by the Board of Directors of the respective company and are distributed on a specified date to the stockholder of record.
Why Do Companies Pay Dividends?
The simplest reason is to attract investors, or keep their existing investors happy. People like seeing the fruits of their investments and will often choose stocks specifically because they expect it to pay a dividend.
Some companies pay a dividend because it is something they’ve always done and it has become expected of them.
Is there a downside to dividends?
Yes, money that is in the hands of a shareholder is money that the company cannot use. Often, companies are better at investing their money than you are.
What I mean to say is: if you take your dividends and shove them into a savings account to earn 1% interest, but the company could have used that same money to sell a service that yields 10%, you would have been better off without the dividend.
Despite this fact, dividends are still extremely popular, and will continue to be popular; especially among fixed-income individuals.
Dividend Investment Terms
There are two key attributes that I use when evaluating dividend stocks at first:
The dividend yield is a simple percentage that tells you what the stock is yielding. An easy way to compare this is like when you look at the interest rate a bank account will give you. If a stock has a yield of 3% and you buy $100 worth of shares, then you’ll receive about $3 worth of dividends that year.
Dividend Payout Ratio
The dividend payout ratio is the amount of the dividend divided by the earnings per share. The dividend payout ratio essentially tells you if the dividend is sustainable. Often times a dividend payout ratio above 80% is highly discouraged, but more modest estimates prefer nothing about 60%.
To explain it more simply: think of the dividend as your paycheck. If you get a paycheck for $1,000 and you give $600 of it away, then you are left with $400 to live on. Your payout ratio is 60%. If you decide to give away another $200, then your payout ratio is now up to 80%! This is exactly what happens when stocks have high DPRs.
How Do You Get Dividends
The best way to begin getting dividends is to simply invest in companies that offer them by purchasing their stock. If you are uncomfortable with investing in single companies you can always purchase mutual funds, Dividend Stock ETFs, Trusts, and many other investment vehicles that offer dividends.
This article is a part of our free Stocks that Pay Dividends Training Course. Check it out now!