Dividend Capture: Better Left To The Pros

by: Paul Price

Most holders of high-yielding stocks are long-term investors that hope to pocket the dividends while also seeing some appreciation over time. They are not typically 'active traders'. There is a small sub-set that plays these same securities with a totally different mindset.

Dividend capture traders intend to buy relatively high-yielding shares just before they go ex-dividend. They then fully anticipate exiting their positions almost immediately after they've locked in the next payment.

They then pick up their marbles and move on the next decent sized dividend from some other stock and go the Head and Shoulders route; Lather-rinse-repeat.

One thing is sure for those practicing this technique. They will get a steady stream of dividend income. What's not guaranteed is a positive total return. That will depend on beating the theoretical efficient market hypothesis which states that everything that's known about a stock will already be reflected in its price.

This concept was widely popularized back in 1973 in Burton Malkiel's classic book A Random Wall Down Wall Street.

The theory would suggest that since everybody knows a stock is going ex-dividend for a pre-announced amount; the share price would be adjusted penny for penny once the dividend was no longer available to new buyers.

There's an old joke about economists … The definition of an economist is; someone who sees something that works in practice then wonders if it would also work in theory. In real life most dividend capture players try to cut things really close regarding ex-dates.

They mainly buy the just a day or two before the ex-dividend date and sell immediately or within a day or two afterwards. Here are two recent examples.

Utility company Entergy (NYSE:ETR) went ex on Tuesday, August 7th for 83-cents per share.

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Low priced, high-yielding BGC Partners (NASDAQ:BGCP) also went ex on Aug. 7th for a 17-cents per share payout.

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In each case if you waited until just before the close on the day preceding the ex-dividend date you failed to make meaningful profits. Had you bought just a couple of days earlier than the rest of the dividend capture herd you would have made out much better.

Selling at the opening on the ex-dates also appears to be a bad idea in most cases. The negatives to doing what I've just described? Market risk. Yield capture is an arbitrage-type play which attempts to profit from minor pricing inefficiencies. Holding shares for a couple of days or longer on each end of a trade means subjecting your portfolio to fluctuations unrelated to the dividends.

There is no free lunch. If you play the dividend capture game by buying and selling immediately bracketing ex-dates you are unlikely to make much profit other than through blind luck. If you assume a modicum of market risk by extending your trades a few days before and after the ex-dividend date you could do much better or much worse than predicted. More risk = greater potential reward.

Most individual investors should skip this activity and stay with solid long-term investing. Leaving risk arbitrage to the pros is probably a wise choice when you factor in commissions, taxes and frictional costs of trading such as bid-ask spreads.

Disclosure: I am long BGCP.