When we’re working and investing for our retirement, every bit counts.
A gain of 1% more per year really starts to add up. And the more time we have, the larger those gains can be. Sometimes we do things in our portfolios that we don’t think is big a deal, but over time can really hurt.
And oftentimes, the simplest thing can be the most painful.
Recently, some family members of mine asked me to take a peek at their portfolio.They had a nice, strong, conservative portfolio made of blue-chip, dividend-paying stocks. These stocks had done well for them and my family members were proud. They weren’t looking for advice. They were just wondering if there were some other sectors they should be allocated to that they were overlooking.
I took a look at the portfolio and my first question was, “Are you using a dividend reinvest plan (DRIP)?”
“No,” they replied.
“Why not?” I asked.
“Do you need the cash from the dividends?” I asked.
“No. It’s just been collecting in the account,” they responded. “We didn’t think it made much of a difference.”
“Uh… Would you like me to show you how much money you left on the table?” I asked.
“No,” they replied.
Well, I did anyway. And I’m going to show you, too…
The Widening Income Gap
Now, if you’re investing in dividend stocks because you need the income, then by all means take it. If you don’t, then there’s no real reason not to have those dividends reinvested. Because even though you might not think it does, it impacts your returns. And it’s better to have those dividends doing something other than gaining a fraction of a percent in interest in an account.
Let’s take a look at an example.
We’ll use Exxon Mobil Corp. (NYSE: XOM), a classic blue-chip stock, chugging along, paying out a dividend under 3%. Over the last 10 years, Exxon Mobil shares have averaged a return of about 10% per year. It’s not a “blow the doors off the stock market” return, but a fairly strong performance since 2003.
Its best year was 2006, when Exxon shares rose 35.8%. In its worst year, being 2008,shares lost 15.2%. Since then, Exxon has had one year of double-digit returns in 2011 of 15%.
Let’s say you put $5,000 in Exxon shares at the beginning of 2006. You got 87 shares for $57.45. That’s not bad. As of today, shares are trading at $97.85. Just in terms of price movement, that’s a gain of 70.32%.
But there’s a real difference between if you had reinvested the dividend or just took the cash at let it sit there. The five-year average dividend yield on Exxon Mobil is 2.4%, which is considerably less than that of Chevron Corp. (NYSE: CVX), ConocoPhillips (NYSE: COP) and Total (NYSE: TOT). But Exxon Mobil has raised its dividend from an annual rate of $1.28 in 2006 to $2.52 today.
Since 2006, if you’d just taken the dividend and not reinvested it, your initial $5,000 investment would be worth $8,516.70. Plus, you’d have another $1,226.28 in cash dividends collected for a total amount of $9,742.38. That would give you a total return of 94.85%.
Again, not bad.
But you’d still only own 87 shares. If Exxon Mobil doesn’t raise its dividend beyond the $2.52 annually that it pays now, you’ll collect another $219.24 in 2014. On the other hand, if you’d reinvested those dividends since 2006, your current gain would be 104.09%, almost 10% higher.
With a DRIP, you’d own 104.29 shares worth $10,204.71.
Plus, those 104.29 shares will pay you $262.81 in dividends next year. And that’s if the company doesn’t raise its dividend beyond the $2.52 level it’s at now.
So, by reinvesting the dividend:
You increased your total return by nearly 4.5%…
You now own 19.87% more shares…
And your annual payout for 2014 is expected to be 19.87% more…
That may not seem like too big of a variance, but overtime it continues to add up.
Mo’ Time… Mo’ Money…
Let’s go back a few more years to 2003.
Our $5,000 in Exxon would buy 141.8 shares at an average price of $35.26. Today, with the stock trading at $97.85, that’s a gain of 177.5% Your 141.8 shares would be worth $13,875.50. Plus, you’d have another $2,448.95 in dividends, taking the total return to 226.49%. That means your $5,000 original investment grew to $16,324.45.
But again, by not reinvesting the dividends, you’d still have only 141.8 shares. At the current annual payout of $2.52 that would give you $357.34 in dividends next year. On the reinvestment side, however, the return gap widens. Our DRIP return since January 2003 to today is 257.14%. That’s 30% more than not reinvesting the dividends.
You’d now own 182.50 shares, with a projected dividend payout for next year being $459.90… that’s 28.7% more than what you’d with reinvesting the dividend.
Our portfolio is also now worth 9.39% more, with our 182.5 shares of Exxon Mobil worth $17,857.19.
Don’t Leave Gains on the Table
Dividend stocks always get pigeon-holed into being known as conservative, boring and income generators. These are all synonyms for “slow growth” investments. There’s no real razzle-dazzle. But these are generally great companies that have strong balance sheets and good growth opportunities. And their power is in the dividend.
The more time you have to get that dividend working for you, the more powerful – and impactful – it becomes to your portfolio. But the longer you let dividends go to waste, just piling up with no real direction, the more gains you’re wasting.
I’ve talked to plenty of investors over the years that just let their dividends pile up in an account. And there’s no good reason why. Because all they’re doing is just leaving gains on the table.