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My primary objective is income replacement! ... The objective is to start earning an income stream now, to replace the income that will be earned throughout the working years. I want that income to be reliable, predictable and increasing. The income stream will need to continue to grow to stay... More
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  • Dividend Reinvestment 38 comments
    Feb 6, 2013 6:32 PM

    There has been a lot of talk in the SA comment streams about whether one should take their dividends in cash and buy another undervalued position, or to reinvest the dividends back into the same company, even if their share price is overvalued.

    I won't dispute those who take the cash and buy other positions. I did that myself while I was trying to get all of my positions established. Once I owned as many companies as I wanted to own, I then clicked on the full dividend reinvestment tab.

    In this article I am going to share my thoughts on why I reinvest dividends. I'm not saying one way is better than the other. I'm simply sharing my perspective as to why I do.

    Project $3 Million holds 27 positions. One of the tactics we use in that portfolio to help manage losses is to keep positions as equally weighted as possible. When you are contributing $500 per month to the portfolio, it is difficult to build all 27 positions within a reasonable time frame. We invest $1,000 at a time when we add to positions, so it would take over 4 years to get to all of the positions.

    So, we use dividend reinvestment to help move the positions along, even if they are being moved at a slow pace. Slow pace is better than no pace in my opinion.

    I also had thoughts about companies with high yields like VZ (yld 4.6%) and KMP(yld 5.6%) for example. If I were to collect the dividends and distributions from them, am I going to find another quality company that pays a yield as high as them? If not, aren't I better off reinvesting the dividends and locking the higher yields in?

    How about positions like EPD (yld 4.7%) and HCN (yld 4.8%) that offer 5% discounts on reinvested share prices? Wouldn't it be prudent to lock that 5% in, as well as getting the higher yields offered by them? That 5% discount on the reinvested shares is in addition to their healthy yields. Money making money is the concept, I would think.

    And what about MLP's? I own them in taxable accounts. Their distributions aren't taxed if they are reinvested back into the paying MLP. If I took those distributions and invested the money elsewhere, I now have a tax liability as well. I don't wish to dilute the quality of the MLP's I own by buying other MLP's, so I think I'm better off reinvesting the distributions.

    In any event, what we don't see in articles written about dividend growth investing, is the impact of the reinvested dividends as it pertains to compounded annual growth rates (OTCPK:CAGR).

    It's difficult to determine the 3 or 5 year CAGR for most of the holdings in the Project $3 Million portfolio because we have been averaging up with additional shares. I did find 5 core positions that we haven't added shares to over the past 3 years and I can calculate an accurate 3 year CAGR with regard to income.

    The 5 companies are:

    KO, CL, JNJ, ADP and JNJ.

    To display the 3 year CAGR, I am going to use Dividend Investor as my source.;submit=GO

    As you scroll down, you will note they have a 3 year CAGR of 7.55% for KO. That certainly outpaces inflation, one of the objectives of Project $3 Million.

    Listed below are the 3 year CAGR rates, followed by the 3 year CAGR rate when you reinvest the dividends.

    KO ... 7.55% vs 10.41%

    CL ... 12.26% vs 14.77%

    JNJ ... 7.54% vs 11.11%

    ADP ... 6.82% vs 8.05%

    MO ... 8.81% vs 13.77%

    Since the Mission Statement for Project $3 Million is to earn an income stream that is reliable, predictable and increasing, dividend reinvestment is certainly insuring that happens for us.

    Again, I'm not saying this strategy is for everyone. However, when I take dividends in cash and deploy them elsewhere, the replacing company not only needs the quality of the one I currently own, but the yield needs to be higher and the dividend growth larger, otherwise I'm better off reinvesting my dividends.

    If one of your objectives is to focus on the income, make sure collecting cash and redistributing will give you better results than my dividend reinvestment results listed above, otherwise reinvesting the dividends is the better option.

    Stay invested my friends and invest wisely.

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Comments (38)
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  • Chowder, nice article. Funny to see this, I'm writing an article on the same topic right now, from a slightly different angle. Great minds think alike I guess, ha.


    The thing I like about dividend reinvestment, as your numbers show, is that you get the first 3%-5% of the CAGR guaranteed! So if softens the "pain" of a down cycle, and accelerates your growth in an up. Cool heh?




    P.S, I also like your sign off, it reminds me of the Dos Equis commercials - "stay thirsty my friend."
    6 Feb 2013, 06:45 PM Reply Like
  • Also for most brokers and plenty of stocks, you can reinvest into the same company without paying any additional commissions. Especially early on when your positions are small that can make a big difference.
    6 Feb 2013, 07:29 PM Reply Like
  • Chowder, I am glad to see you present the reinvestment side to DG strategy, as most articles lean the other way. The numbers for 3 year CAGR are impressive.


    I have 29 stocks spread over 6 different accounts, and it would be very complicated and time consuming to track the cash dividends and accumulate enough to buy shares in undervalued stocks. I just reinvest automatically, which costs nothing in my Vanguard accounts, and the money is working all the time. After three plus years, I am amazed how many shares I got for "free," and I hope that as time goes by, the compounding effect will really get going.
    6 Feb 2013, 08:36 PM Reply Like
  • To me, **~IF~** you are able to time the market, buy the dips, or whatever successfully (reading the comments on many articles it sometimes seems everyone else manages this so successfully! ;) then obviously taking the dividends in cash and investing in undervalued stocks (cause that is so easy to do too right?) is going to out perform just dripping your positions.


    There in lies "the rub".
    6 Feb 2013, 10:39 PM Reply Like
  • Author’s reply » Funny thing sneaker, people usually just share their success stories. They don't share their failures. So, we never know what is what.


    That's why I posted Project $3 Million online. Everything is there for people to see, good or bad, and it is my hope that people learn from both my successes and failures.


    Often times it's the failures we learn the most from, so I want them out there!


    I don't know what the term out perform means when others use it. Out perform who or what? The Market? How do I know what the Market is going to do this year? If I don't know how it is going to perform, how do I position myself to out perform it?


    That's crazy talk and it's crazy thinking!


    I'm supposed to wait a year to see if I did something better than something that was unknown? Sounds like guessing and pure luck to me.


    Project $3 Million has specific goals to achieve every year for the next 35 plus years. Those goals are defined down to the penny. I know exactly where the portfolio needs to be at the end of year 2020 for example.


    In January 2013, the portfolio value is already where it is supposed to be on January 1, 2014. The portfolio is a year ahead of schedule. To me, that's the only out performance that matters. ... Ha!


    Project $3 Million:



    Where do you sit on the dividend issue? Do you collect the cash or reinvest it?
    7 Feb 2013, 12:54 AM Reply Like
  • Chowder,


    Funny thing about people sharing success stories I see in comments is they are unfortunately often short lived. Up one week, down the next. Still, I enjoy telling of my winners too, and I do appreciate it when people post they are buying, as I sometimes use that as a trigger to refresh my due diligence on the stock in question.


    When I used the term outperform, I was not meaning comparing against the S&P500 or an index, I was just meaning comparing my own portfolio's income stream based on the decision to reinvest dividends or not.


    I am a Project $3 Million follower, and think it is very instructive and want to say a big THANKS for taking the time to do that, and your many, many comments on SA articles over the years. Several of your comments have drastically furthered my education in investing.


    I am just a little further down the road on the Project $3 Million schedule (I am 43), but I am ON the road, and on target for my own retirement.


    Right now, I am reinvesting all my dividends back into the company that paid them. My quarterly contributions to my 401k Solo and ROTH accounts (I am self employed) far outweigh my quarterly dividends, I am already widely diversified (70+ companies), I have been able to keep my positions adequately balanced, I recognize the value of the Dollar Cost Averaging concept of reinvesting and I already struggle to keep a low cash balance (which I have deemed to be 7%).


    This is my situation right now. When my position in each company becomes larger, harder to balance, If I become under diversified, etc I will be open to consider turning off dividend reinvestment.
    7 Feb 2013, 10:13 AM Reply Like
  • Keep up the great articles!
    7 Feb 2013, 12:47 AM Reply Like
  • Good topic! Interesting points on CAGR and MLP tax implications.


    I'm still in the accumulation phase and automatic reinvestment seems to work well. Keep the compounding machine moving along. Steady as she goes in both up and down markets and best of all while you sleep. Turn off the reinvestment option and you end up with small amounts of cash sitting around not going to work until you take action. Maybe I'd turn it off on a single position that gets too heavy..


    It's possible to do better collecting distributions in cash and adding to the most undervalued positions but I'm not sure how confident one can be that they are always making the right choices at the right time. For now, I prefer the Occam's Razor approach and simply reinvest. Drip drip away and no extra fees for that.
    7 Feb 2013, 03:37 AM Reply Like
  • Chowder,


    Thank you for good article.
    I don't have the upper limit for number of positions (at least yet), so I rather increase my portfolio than re-invest. In both cases it will be nice to time the market but the fresh data shows ( that most of individual investors cannot do it consistently.
    As far as I know for most DRIP plans you have to hold shares in the company. IMO it is a disadvantage if you need to sell out position e.g. at dividend omission when price drops fast.
    See on MLP and taxes.


    7 Feb 2013, 05:40 AM Reply Like
  • I now have 23 companies in our dividend portfolio. We reinvest all dividends back into the companies that produced them. At some point in the next few years, we will start taking those as income. Until then, my friends, reinvest away :)
    7 Feb 2013, 07:10 AM Reply Like
  • oh chowder, the failures I could share with you! in college, it was a combo of investing in technology heavy mutual funds and incredibly bad timing. I started investing around 1999. then my second big mistake was using a broker who put me in SBUX, QCOM, and AAPL almost to the day that they reached their all-time highs. I've held on since, and am slowly clawing my way back via dividend reinvestment with those 3. luckily, I'm only a few years older with your son, so I have time to right my mistakes. and I have time to make some more, of course!


    even though I don't actively trade stocks, I actively manage my re. dividend reinvestment. about 65% of my stocks have dividends reinvested, while about 35% of my stocks I take the dividends as cash. I don't have any set rules guiding this, but I tend to take cash for fully weighted positions, for over or fully valued positions, for utilities or other slow growers, and for stocks which i'm undecided if I want to hold or sell (INTC, for example). also, if I think the market is ripe for a pullback, I might turn a few DRIPs on to catch a reinvestment on the downdraft.


    especially if you're younger and building a portfolio or in the accumulation phase, I think it makes a lot of sense to drip.
    7 Feb 2013, 12:44 PM Reply Like
  • Looks like you just wrote the rules for your dividend reinvestment plan! They make sense and apparently support your goals.
    7 Feb 2013, 12:58 PM Reply Like
  • Author’s reply » kolpin, as I mentioned, I understand why some people don't wish to reinvest the dividends and I also understand your method of investing some and not others.


    I made the decision to stay 100% invested because I can't predict which of my companies will perform the best in 2013. My best ideas don't always turn out to be my best performers. They may do well, but I have no way of knowing from one position to the other.


    Most people will not reinvest in companies that are over valued. I may hurt some feelings with this comment, but that's crazy thinking.


    The strong often get stronger!


    There has been a lot of chatter in the comment streams and media about not being able to beat an index. People still want to use the indices as benchmarks to gauge their own performance. Part of the reason for not being able to beat the benchmarks consistently is because they contain companies that have momentum, are over valued, and are in a very timely period for further price movement.


    Too many of us want to cut that price movement short. We sabotage ourselves.


    I found it interesting that I was the only person commenting that PG was a buy as it broke out of their multi-year high two weeks ago. Although we are value investors, that doesn't mean PG wasn't a value buy at a 52 week high. I think it was! Most people relate value to share price pull backs. PG has added another 8% to their share price in the last two weeks.


    I wouldn't have predicted that in advance. However, I kept reinvesting, will continue to reinvest in PG, and those reinvested shares have also benefited from that price move.


    Again, I'm not saying this is the better way to do it. I'm simply sharing my thoughts to provide food for thought for others who are still determining what's best for them. You have yours under control and I think you have a sound plan. ... Ha!
    7 Feb 2013, 01:02 PM Reply Like
  • "The strong often get stronger!"


    I have a story that illustrates this.


    After the 08/11 debt ceiling debacle, I had some dry powder to deploy. KMB was on my watchlist and it had declined some but wasn't off it's 52 wk high by very much (~$68 vs ~$64). So, I waited.


    The beginning of 06/12 I had a new infusion of cash to invest and revisited KMB. Of course it was yet again near it's 52 wk high (~$80 vs ~$78). Seeing that ~28% change in 11 months since I'd last considered it, made me decide to wade in knee deep and pick up some. Was I chasing momentum?


    On 01/08/13 I decided to get in waist deep (note still very close to a 52 wk high).


    And today, another 52 wk high.


    My takeaway from this learning experience isn't a "coulda or shoulda" but instead examining my own paralysis. I found I was more concentrated on the "52 wk" price than the other aspects that made me want to own this quality stock.


    As it stands now, a 10% drop (~$10) would erase my paper gain (the $2.22/share div not included). IMO, that's possible, but unless the div is in danger, it wouldn't make me sell (no principle loss).


    P.S. I hoping for a nice 8%-10% raise for the div :)
    7 Feb 2013, 04:56 PM Reply Like
  • Author’s reply » curreyr, some people know the price of everything and the value of nothing. It isn't the share price dropping that creates the value, it's the fundamentals of the company.


    When people look at a company like EXC and determine that now that the company has announced the dividend cut, and price has taken a beating, it must be a good value because everything known is priced in, that's silly thinking.


    It may be a great speculation pick, but it's anything but a good value play.


    Power prices are not improving, earnings are still down, hedges are being locked in at lower prices ... that's not value.


    PG on the other hand, at it's multi-year high, surprised everyone with organic growth across most sectors, something nobody was expecting, showed better than expected earnings, guided higher in the coming quarters, and announced a larger share buy back plan than expected.


    That's where the value was! Analysts will now raise expectations. The huge volume we saw in the first few days on the earnings announcement was driven by Institutional Investors. They just took PG to the next price range. Very similar to what happened when you looked at KMB initially.


    Price doesn't determine value, company fundamentals do! The key is to look for fundamentally sound companies that may have a price pull back on profit taking or market related news, not company specific news. But, if at a 52 week high, and the company comes out with better than expected results, you've got a good value play with momentum. And that's the part that is difficult for most value investors to grasp.
    7 Feb 2013, 06:32 PM Reply Like
  • chowder,


    I have no regrets. At the decision time in 08/11, I'd narrowed to KMB vs COP, and went with COP.


    The funny thing was the eventual purchase in 06/12. KMB was rated a 'hold'. I slapped my head and said "yes, that's something I want to 'hold'".


    The true lesson I learned was that "opportunity cost" could become quite an expensive cost. Some of the advise I see of "wait for a 10% pullback" or "wait for profit taking" completely ignores the opportunity cost aspect.


    FWIW, I have 27 positions. Some are fully funded @ 5% and some are half funded. Cash is always fully funded!
    7 Feb 2013, 07:18 PM Reply Like
  • I totally agree chowder. I automatically reinvest dividends because I know I can't predict the market - PG is perfect example. Some are certainly over valued but some are also fairly or under valued. I figure over time, it will pretty much even out.
    7 Feb 2013, 10:00 PM Reply Like
  • Chowder,
    I'd welcome your thinking and experience on this "rule" I am developing. (I, also, re-invest all dividends.)


    Rule: If total return for a non-core holding reaches 40%, sell if you can harvest at least 5 years of expected dividends, compounded.


    Thank you.
    11 Mar 2013, 09:16 PM Reply Like
  • Author’s reply » jp, I can't say others shouldn't do it. I know I wouldn't. I'm not selling my winners until they prove they can't win anymore. If I followed that rule, quite a few of my holdings would already have been sold, yet they keep going higher.


    Over time you will start to see where roughly 20% of your holdings will provide roughly 80% of your portfolio return. If I keep selling them off, how do I get high total return?


    I sell when the position no longer does what I bought it to do.
    12 Mar 2013, 08:07 AM Reply Like
  • Dear chowder,


    IMHO your very correct ! Run with your Profits . I as well, do.


    Stopping losses as well with the 20-23% rule of loss.


    I did not on the RBS- Pr-I follow that and am way back now. If the UK Govt pays a Dividend finally i will be a lot happier with more than cap gains.
    13 Mar 2013, 02:11 AM Reply Like
  • Chowder,
    Thanks for the response. Again, I value your thinking and experience.


    Have you ever viewed this question from the point of volatility? Meaning, historical volatility may say there may be a very favorable re-entry point on the stock harvested. So often I see SA references to 'rinse, wash, and repeat' where it's a total return play, often with a cyclical stock.


    I can see the argument either way and your response is pretty clear - you just don't do 'rinse, wash, and repeat', if I read you correctly.


    Thank you.
    13 Mar 2013, 11:50 AM Reply Like
  • Author’s reply » jp, if you are talking about a cyclical stock, I can understand playing the cycles if that's what you want to do.


    I have done that with EMR for example. I will do that with part of my INTC position because that was the objective up front.


    When I purchase a company, I determine up front if it's a core position or something I'm looking to take profits on and I stick with the plan.
    19 Mar 2013, 09:28 PM Reply Like
  • I think a dividend growth portfolio is a symphony. Whatever number of positions playing together to make beautiful music. The woodwinds are dominant in one movement, the drums in another, and stringed instruments in a third. In really complex movements, the french horns can thrive.


    Dividend reinvestment for me is like providing funding to the members of the orchestra for professional development.


    Must put on some music, Ha!
    7 Feb 2013, 03:10 PM Reply Like
  • And sometimes it's best when the conductor "gets out of the way". The conductor's most important job is "selecting the music" (stocks) and "rehearsing" (due diligence). On concert night it's the symphony (properly prepared) that performs. The conductor is up there mostly for show.
    8 Feb 2013, 05:20 AM Reply Like
  • The conductor is never there just for show.
    8 Feb 2013, 07:06 AM Reply Like
  • never just there for show. a great conductor spends countless hours on score study, historical perspectives, and knows every orchestral members part and how they work together for a great performance.
    8 Feb 2013, 10:17 AM Reply Like
  • Chowder, can you elaborate on MLP distributions aren't taxed if reinvested. My brokerage firm does not offer automatic reinvesting of dividends/distributions. So, I'm doing it on my own.


    11 Feb 2013, 01:12 AM Reply Like
  • The way you dispose of MLP distributions has nothing to do with how they are taxed.
    11 Feb 2013, 02:16 AM Reply Like
  • Author’s reply » mico, the distributions from the MLP's I own are basically return of capital (ROC). I'm getting part of my investment money back but I still have the same value in the MLP. My cost basis is lowered by ROC.


    ROC is not taxed until you get down to a zero cost basis. My distributions are automatically reinvested and then they too send off ROC.


    Be Here Now is correct in his response.
    11 Feb 2013, 07:21 AM Reply Like
  • I knew that..That's what I get for doing this so late at night..I'm still getting comfortable with the terms. Thanks!
    11 Feb 2013, 09:49 AM Reply Like
  • Dear chowder,


    Thanks for posting. You do very well too eh!


    DDrIPS are wonderful and an added benefit as when the firms did matching on the 401K plans.., Still some do not partake in those either..


    Keep up the wonderful due dilly, posting, and investing you do so well!


    GOD Speed
    24 Feb 2013, 05:25 PM Reply Like
  • Author’s reply » Thanks for the kind words triple A.
    24 Feb 2013, 08:25 PM Reply Like
  • Chowder,


    My thanks to Percy and you for the cold one last week and also thank-you for your article.
    I do have a question.
    In your portfolio you have stated that you carry approximately 50 positions @ 2 percent of portfolio value to minimize risk and preserve the portfolio. As you reinvest distributions from REITS and MLPs along with stock dividends I'm assuming you trim or rebalance that portfolio based on different factors in order to maintain approximately 2 percent per holding or do you simply look at your initial cost on a holding?
    The reason I ask is I'm curious if you give yourself leeway in that rule?
    You mentioned PG and it was fluctuating in the 50's and 60's and now it is up into the 70's. Although, you are not overtly concerned with price fluctuations PG would bend that rule.
    With the organic growth and good fundamentals PG has put in a new range, so to speak of valuation.
    Just looking for some clarity from you to apply to my holdings and hoping I haven't muddied up the pond.
    Thank-you for any response to this query.
    25 Feb 2013, 02:10 AM Reply Like
  • Author’s reply » jdhd, good questions.


    I do not have a strict rule with the 2% rule, it's a guideline. I will let winners run. I would not trim back on PG at this time as I think it has entered a new and higher trading range. Something I will cover in an upcoming instablog.


    Since I am still adding funds to the portfolio, I use those funds to bring the lagging positions up to par as far as equal weighting goes, as long as the valuations are decent. Otherwise, some positions will continue to lag with weighting.


    Those already in retirement may want to be a little more strict, I don't know. That's up to them.


    I haven't trimmed anything in the last couple of years, although I have sold positions.
    25 Feb 2013, 08:06 AM Reply Like
  • Chowder...
    Appreciate the follow-up and looking forward to your next article.
    That makes sense when I add in certain other things you have stated as criteria when selling.
    I read the article on DRI and have to say my daughter and I go there often. In fact, we plan to have lunch @ Olive Garden tomorrow. I had a chuckle in your response because my daughter insists on the Chicken Alfredo Fettuccine and I won't go in there without ordering the Zuppa Tostada Soup.
    I think it is a buy and not a sell as the article stated and started a position in DRI.
    Anyway, All the best to you and yours.
    25 Feb 2013, 04:40 PM Reply Like
  • jdhd,


    Just remember you can:
    Buy the product and not the stock.
    versus ...
    Buy the stock and not the product.


    Examples might be tobacco, junk food, feminine hygiene products, pacemakers, ...
    25 Feb 2013, 06:08 PM Reply Like
  • curreyr...haha!


    So True....I have Mo and Lo and use to smoke a while ago. I have T and Vz but actually use Sprint. I have UPS and FDX but only worked for one of them.
    Another rule is buy what you know and I tried to explain that to my ex but she sent me out for Feminine hygiene products anyway :)


    As stated in the case of DRI it was more like "you can have your cake and eat it too"... so pass me another breadstick!


    All the best,
    26 Feb 2013, 01:19 AM Reply Like
  • I kept going back and forth on this one and have gone through periods of reinvestment and then taking them as cash. The math above, plus the consistent investing is when it finally dawned on me that reinvestment is the way to go. I have building up cash as I look to establish some new positions and in that time, I haven't been committing new dollars. Therefore, my only growth in income is coming from when a company raises the dividend. Why wouldn't I want to own more JNJ, PG, KMI, etc??? Especially with no broker fees!


    Thanks for the article...very thought-provoking.
    12 Mar 2013, 10:45 PM Reply Like
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