Dividends are payments made by companies to their shareholders used to distribute a mature company's profits to their investors. Dividends are usually paid out quarterly but can also be paid out monthly, semi-annually, and annually. Dividends are paid per stock and are declared on a stock’s ex-dividend date. There are 2 types of dividends - normal and special dividends. In this guide we will be going over normal dividends. You can read our post on special dividends!
Companies usually decide to start paying dividends when their expected rate of return for investing in the business is lower than the return to investor of their dividend.
A stock’s ex-dividend date is the date that a shareholder must be owning the company's stock to be paid out a dividend. Investors who purchase shares after the ex-dividend date will not be entitled to receive the dividend but investors that sell their stocks after the ex-dividend date will still receive their dividend.
A dividend yield is the amount of money paid out in dividends during the last year divided by the current price of a stock. For example, let's say stock TYD (track your dividends) pays out $5 per year and is at a stock price of $100. The yield of TYDD would be 0.05 or 5%. The yield on cost of a share is the money paid out in dividends during the last year divided by the price you bought your shares at. So using the same example above, if I purchased TYD at $50, my yield on cost would now be 0.1 or 10%.
Now that you know the basics of dividends you may be inclined to go out and purchase the stocks with the highest possible dividend yields like 20% or 30%. Investments like these are very risky since usually stocks with such a high dividend yield have a unsustainable payout ratio - meaning that they pay out more in dividends than they earn in profit. This is, obviously, bad since once the company runs out of money the dividend will be slashed and your investment will drop in value.
Dividend aristocrats are certain dividend stocks that have a long history of paying out dividends and increasing those dividends year over year. Stocks that are considered dividend aristocrats are JNJ, T, and MMM. These stocks are generally considered safer to invest in due to their huge size and long history but you must still do your due diligence before making any financial decisions.
As always - this post is not to be taken as financial advice. Please consult a financial advisor before making any financial decisions.