Dividends are King

Monday, 16th April 2018 14:46 - by Ranjeet Singh

Show me a man who says doesn’t like some passive income and I will show you a liar. Everybody loves easy, free money and passive income is exactly that. It’s the money that you make sitting on your fat ass all day eating chocolate buttons watching the omnibus repeat of EastEnders. Yes, it’s that good.

Seriously though, income is so important and especially when it comes to your shares. That’s because of several reasons. For a start companies that pay dividends by definition must be doing something right because a company can only pay a dividend out of its earnings (i.e. profits), and therefore the fly by night penny share companies that might go bust are not going to pay a dividend – that helps you to steer clear of the high-risk shares (but watch out for dividend cover!).

It also provides a natural stop loss to shareholders as the yield increases as the price falls (I call this the Dividend Yield Support (DYS) strategy) but I will leave that to another day as it gets a bit technical.

However, the main reason to want to receive income from dividend paying shares is very simple. It means that you make more money on your investments.

Take the FTSE100 for example. At the height of the dot com bubble in 2000 it was trading at 7,000.

As I write this article the FTSE100 is around 7,200 and two weeks ago it was 7,000. Basically, the stock market hasn’t moved in 18 years! And that is primarily because the capital value has remained constant whilst income has been extracted from valuations.

In other words, if you have constructed a decent income biased portfolio your capital would have been largely the same but you would have received passive income along the way which in effect is your total return on capital (total return = capital + income). And how much income do you think you would have received?

Well this will surprise you so sit down if you aren’t already and stop whatever it is that you are doing. No distractions and no hot cups of coffee in your hand please.

The actual figure is this – if you had invested £100,000 in 2000 in the FTSE100 index without income then your portfolio would be worth today £100,000 (based on the value of the FTSE100 index). Basically, well done, give yourself a pat on the back you made nothing, zero, nada, zilch.

However, if you had invested that same £100,000 in the income yielding part of the index and reinvested the dividends then your portfolio would be worth a staggering £250,000 today! OMG.

So, whilst the FTSE100 index has not moved you could have still made a tidy profit. Now remember that this is based on the index and so your results would be different if you had invested in individual shares depending on which shares you bought. Whatever the case I don’t think that there can be any argument against income or chocolate buttons.

And as far as EastEnders goes, I don’t watch that show anymore. After dirty Den died, it was never quite the same ☹

Watch today’s short video at https://youtu.be/H1AlTM-pzrU

 The Writer's views are their own, not a representation of London South East's. No advice is inferred or given. If you require financial advice, please seek an Independent Financial Adviser.