I am always disappointed when people who invest in shares tell me that dividends don’t matter. They say that the amount earned through dividends amounts to peanuts. It only represents a tiny drop in the bucket, when compared to capital gains. Short term punters, if they should receive dividends, see them as a bit extra that could help offset trading costs. Some long-term investors can be a little guilty of that also. But dividends can be a lot more than that. A company, we should remember, doesn’t have to pay dividends. Dividends are not mandatory, unless the business is a…
I am always disappointed when people who invest in shares tell me that dividends don’t matter.
They say that the amount earned through dividends amounts to peanuts. It only represents a tiny drop in the bucket, when compared to capital gains.
Short term punters, if they should receive dividends, see them as a bit extra that could help offset trading costs. Some long-term investors can be a little guilty of that also.
But dividends can be a lot more than that.
A company, we should remember, doesn’t have to pay dividends. Dividends are not mandatory, unless the business is a REIT, say. In which case, it must pay out at least 90% of its profits as distributions to unit holders.
But other companies don’t have to.
When they do, though, it could be a sign of commitment to share with shareholders some of the profits they have made. Some companies might go even further…..
…. They might pledge to pay a designated portion of their profits every year. Some might vow to pay rising dividends.
Of course pledges are not binding contracts. It nevertheless signals an effort by managers to, at least, try to meet their promises. But we, as shareholders, should do our part.
We need to check if the pledges are achievable.
We could check if payout ratios are too stretched. We could check if dividends can be comfortably met from cash flows. We could even do some basic arithmetic to see if growth is sustainable.
Of course, no calculation is ever fool proof. But it is better to be roughly right than totally wrong.
There is something else to bear in mind about dividends. A seminal study on dividends showed that ignoring dividends can seriously damage our wealth.
The study showed that $1 invested in the US stock market between 1900 and 2000 would have grown almost 200-fold to $198 in 2000. That should please long-term investors. The period included the Wall Street Crash of 1929.
But investors who had consciously and consistently re-invested their dividends would have done much better. Their $1 would have turned into $16,797. That’s 80 times more than investors who had treated dividends as mere bagatelle.
What about us?
It can be argued that the data applies to US equites. What does that have to do with Singapore stocks?
Admittedly, Singapore shares don’t go back that far. Our Straits Times Index only stretches back to 1987. But that should still be long enough for us to draw some conclusions.
Since 1987, the Straits Times Index has risen from around 820 points to 3,175 points. So, $1 invested in a basket of Singapore companies would have grown to $3.87. That’s without factoring in dividends.
If an average yield of 3% is applied, the $1 invested 30 years’ ago would have turned into $8.78 today.
Investors today can, perhaps, learn something from the past.
How to make money
Let’s say we start off with an initial investment of $10,000 today. Let us also assume that we add $500 to the investment every month. Based on an annual growth rate of 5%, the investment could grow to $1 million in 43 years.
That assumes that none of the dividends are reinvested. However, if the dividends received are promptly put back into shares, the time that it could take to reach $1 million is substantially reduced to 31 years.
At the moment some of us are worried about the impact that President Trump could have on the global economy and our investments.
Up and down
On any particular day the stock market could be up significantly, while the next day it could be down substantially.
But it wasn’t that long ago when we weren’t even talking about Trump. Instead we were fretting over the Great Financial Crisis, the bursting of the dot.com bubble and, before that, the Asian Financial Crisis.
Despite every stumbling block that has been put in the way of the market, Singapore shares have still managed to rise. It has fluctuated but it has still risen.
So, we investors need to look past Donald Trump and focus on the future.
If the stock market can cope with the Wall Street Crash of 1929, Donald Trump will be nothing more than a footnote in history, if that.
A version of this article first appeared in The Straits Times.
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