I took my first investing class as a teenager, and one moment stands out in my memory. A fellow student asked the instructor, a stockbroker, about dividends.
"Dividends?" he asked. "I'm trying to make my clients wealthy. You don't do that waiting for tiny checks in the mailbox every quarter."
Even then, I had enough horse sense to know he was wrong. Paying attention to dividends is exactly how you become wealthy over time.
Wharton professor Jeremy Siegel made a wonderful discovery in his book The Future for Investors. The greatest long-term returns typically don't come from the most innovative companies, or even companies with the highest earnings growth. They come from companies that happen to crank out dividends year after year. Simply put, since the 1950s, "the portfolios with higher dividend yields offered investors higher returns."
Market commentary regularly centers on price gyrations, yet dividends historically have accounted for more than half of total returns.
Reinvest those dividends, and your results become magnitudes greater. Take ExxonMobil (NYSE: XOM ) , for example. Since the late 1960s, Exxon's shares have returned 3,700%, but the total return leaps more than 20,000% higher once you factor in reinvested dividends.
Source: Capital IQ, a division of Standard & Poor's
There's no ambiguity here: Over time, Exxon's share appreciation alone has paled in importance to the power of its reinvested dividends. The results are similar for competitors Chevron (NYSE: CVX ) and ConocoPhillips (NYSE: COP ) ; reinvested dividends skew both companies' total long-term returns overwhelmingly higher. If you're a shareholder, don't worry about daily -- or even yearly -- share wobbles. Devote your attention those dividend payouts, and your commitment to reinvest them.
How do Exxon's dividends look? The company has grown its payout at an average annual rate of 5.7% over the last 27 years. The current yield -- 2.3% -- is not exceptionally high, but still acceptable in a world where bonds yield about the same. Over the past five years, Exxon's dividends have averaged just 50% of free cash flow. That means its payout is well-covered, and there shouldn't be a risk of a cut anytime soon.
To earn the greatest returns, get your priorities straight. What the market does is less important than what your company earns. What your company earns is less important than how much it pays out in dividends. And what it pays out in dividends is less important than whether you reinvest those dividends.