Close-Up: Dividends

September 16, 2008
Ed Rabinowitz

Physician's Money Digest, February28 2003, Volume 10, Issue 4

n.

Dividend: A portion of a company's profits that is paid to shareholders, usually in cash or as additionalshares of stock.

Remember bell-bottom pants? They were popular inthe'60s and '70s, fell out of fashion in the '80s, andwere reborn in the '90s. It's a similar story for dividends.There was little interest in these once-popularproceeds during the raging bull market of the '90s.Instead, investors turned their attention to tech stocksthat they believed would double or triple in price eachyear. Well, in case you haven't noticed, dividends areback, for 2 reasons.

First, the raging bull market of the 1990s is, alas, adistant memory, and investors are refocusing theirstrategies. Dividends can offer some comfort in the currentmarket's bumpy ride. Second, the recent proposalby President Bush to eliminate the tax shareholders payon dividends—currently taxed as income to both thecompany and the investor—would, if it passed, makedividends far more profitable investments. While thepresident's proposal is no certainty, it's safe to say thatdividends are likely to capture more investors' attentionas the year unfolds.

SOME DIVIDEND BASICS

Star-Ledger

If you've been considering investment alternatives,you've no doubt noticed that interest rates are at all-timelows. Money market accounts can help you avoidlosing money, but you don't play to avoid losing—youplay to win. According to an article in the ,the average yield on a money market account theweek of January 6, 2003, was 1.45%. Thirty of theDow's stocks had dividend yields higher than that.Moreover, the average yield of the S&P 500 companiesis 1.83%. Of course, stocks can also decrease in value.

When shopping for a dividend-paying stock, the keynumber to keep in mind is the yield. This is the percentageof the share price you will receive as profiteach year. Yield is calculated by dividing a company'sannual dividend by its share price.

As noted earlier, if a company pays a dividend, itcould do so in the form of additional shares of stock.Some companies might have both common and preferredshares of stock. Understanding the difference isimportant. If you're looking for reliable income, preferredstock might be the way to go. That's because thedividend is unlikely to change. In addition, should thecompany fall on hard times, it will pay preferred shareholdersprior to common shareholders.

Bottom line:

In comparison, dividends on common stock fluctuateregularly. However, common stock has a greaterchance of appreciating. Make sure youcompare the dividend yield.

TIME-TESTED STRATEGIES

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The article offers 2 time-tested strategiesfor investing in dividend-payingstock. The first approachis to select the10 Dow stocks with thehighest yield and holdthem. After 1 year,compile a similar list.Then, sell the stocksthat are no longeron the list from theyear prior and replacethem with the newstocks that made the grade.How well does this strategy work? The articlenotes that over the past 25 years, a $10,000 portfoliobuilt and replenished each year by the 10 highest-yieldingstocks would have increased to approximately$625,000, almost twice the average stock fund's worth.

A second approach is to build a portfolio througha dividend reinvestment plan. This is a company-runplan that's easy and inexpensive to start, because youcan open an account with as little as 1 share of stock.In addition, investors can use cash dividends to purchaseadditional shares. Slow growth? Perhaps, butsimilar to putting spare change each week into acookie jar, your investment will grow over time. Mostof the highest-yielding Dow companies offer thesetypes of plans. You can also do some research of yourown at NetstockDirect.com.

Star-Ledger

The downside to dividends is that there is no lawrequiring companies to share their profits with stockholders.In fact, according to the article,some companies have begun tightening their pursestrings. For example, S&P 500 companies are expectedto share less than one third of their profits in dividendsin 2003. That's about half of what was paid adecade ago. As with any strategy, it pays to do yourhomework before making an investment decision.Consult with your financial advisor.

Dates to Remember

You probably thought that between anniversaries,birthdays, and other special occasions, youhad more than your share of dates to remember.However, if you're thinking about investing in 1 ormore dividend-paying stocks, there are a few additionaldates you ought to keep in mind, includingthe following:

• Declaration date: When a company's boardof directors sets the amount of the next quarterlydividend. Usually, this occurs several weeks beforethe actual payment date.

• Record date: The date by which an individualhas to own shares in the company in order toreceive a dividend. For example, a company has alist of shareholders, and your name would have tobe on that list by the record date to be eligible forthe dividend.

• Ex-dividend date: Set 2 to 3 days prior to therecord date by the stock exchanges to provide timefor orders to settle by the record date.

• Payment date: When the dividend check issent out in the mail.

CME Quiz

1) The most important number regarding dividends is the:

  1. Price
  2. Price change
  3. Yield
  4. Per-share figure

2) Yield is calculated by dividing a company's annual dividend by:

  1. Share price
  2. Price change
  3. 1.83
  4. Square root of 36

3) The type of stock where the dividend is unlikely to change is called:

  1. Common stock
  2. Reliable stock
  3. Preferred stock
  4. Valuable stock

4) Company-run plans that you can open with as little as 1 share of stock are called:

  1. Flexible plans
  2. Friendly plans
  3. Convenient plans
  4. Dividend reinvestment plans

5) The date when a dividend check is distributed is referred to as:

  1. Payment date
  2. Payoff date
  3. Payback date
  4. You're-in-the-money date

Answers: 1) c; 2) a; 3) c; 4) d; 5) a.