Don’t Ever Ignore Your Dividends – They’re Mightily Important

dividends bag of cash money

Whether you’re a share market history buff or an investor who’s just starting to invest for the long-term, here’s an important statistic: Between the start of 1912 and 1948, the S&P 500 went up by 63%. That’s right – for 36 years, one of America’s most widely quoted market indexes basically increased at a snail-like pace of only 1.36% per year. You can’t beat inflation with that.

In fact, it might even rightly cause investors to question the efficacy of investing for the long-term. But, here’s something interesting, as recounted by my American colleague Morgan Housel:

“Using the recreated S&P 500… shows that, indeed, stocks went nowhere from 1912 to 1948. But add in dividends and the index actually increased fivefold.”

The above highlights the power of dividends and is something investors should really pay attention to.

Although the example with the S&P 500 wouldn’t be obvious at all with investors here in Singapore, there’s a very easy channel to observe, in almost real-time, what a big difference dividends can make to our investment returns.

This channel is none other than the performance record for the SPDR Straits Times Index ETF (SGX: ES3), an exchange-traded fund that tracks the Straits Times Index (SGX: ^STI). The table below recreates part of the ETF’s history:

Time period Cumulative return with dividend Cumulative return with reinvested dividend
3 years ended 31 May 2014 4.30% 12.86%
5 years ended 31 May 2014 41.51% 60.42%
10 years ended 31 May 2014 84.26% 149.36%
11 April 2002 to 31 May 2014 89.35% 170.88%

Source: SPDR Straits Times Index ETF website

It’s easy to see how the gulf widens with time when we’re comparing the cumulative returns of the ETF with and without reinvested dividends. At this point, some of you might be convinced of the utility of dividends in helping to build satisfying long-term returns in the share market. But, a question would inevitably pop up: How exactly can those dividends be reinvested?

With individual shares, there are a number of obstacles to that. Chief amongst those would be the lot-size rules in Singapore. Under current rules, most shares in Singapore’s Mainboard and Catalist stock exchanges can only be bought-and-sold in lots that consist of a 1,000 shares each. This makes manual reinvesting of dividends very tough to accomplish, to state the obvious.

Fortunately, there might be changes on that front with stock exchange operator Singapore Exchange announcing its consideration of a reduction in lot sizes last year (personally, I can’t wait for the day when lot sizes are reduced to a more palatable size).

But in the meantime, there are other ways around the problem. For instance, there are local brokerages which run monthly investment plans that would also automatically help you reinvest your dividends (POEMS is one such brokerage).

And even if for some reason your dividends can’t be reinvested automatically, it’d still pay for you to put your dividends to work the moment you can as they have such a large role to play in the potential long-term returns an investor can earn from shares.

There’s also one other important issue at hand here. When the returns of a market index are cited, it’s typically only the capital gains that are given (I’m guilty of that as well when I’m writing!); that’s because pulling out the raw value of a market index is easy but adjusting for dividends is not. This can then cause the perception of much poorer share market returns than what really is happening if the effect of dividends had been accounted for.

Do keep that in mind the next time you look at a chart of raw index values over the long-term; that picture isn’t telling you the full story of what’s happening in the market.

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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore writer Chong Ser Jing doesn’t own shares in any companies mentioned.