As a stock investor, your returns are typically driven by three things:
- Share price increases
- Dividend payments
- Reinvestment
Generally speaking, share price changes get the most attention, since stock prices are nearly always moving and have the biggest short-term impact on your net worth. They are, in a word, exciting.
But while the other two may not grab the headlines, over the course of your investing career, they can play a huge role in determining what you end up with.
The little engines that could
Dividends are typically small. They may only represent a few percentage points worth of return in any given year. Over time, though, that small payment can add up to some serious cash.
And if you reinvest those dividends -- letting time and compounding have their way with your money -- you could be looking at significant returns.
Imagine you own a stock with a 3% yield and reinvest your dividends. If share prices stay constant, after a year you'll have 3% more of them, and after two years you'll have a bit above 6% more shares than you started with, and so on.
Each of those shares can grow, earn additional dividends, and compound your money right along with the ones you originally bought. If the company raises its dividend as its earnings increase over time, then all your shares benefit from that increase, and your compounding can work much more quickly.
In other words, what looks like a small effect at first (i.e., reinvesting your dividends) can make a significant difference to the bottom line.
Want to see the math?
Just look at what each of these household-name companies would have returned with and without reinvesting dividends over the past 30 years.
|
Company |
Total Return of $1,000 Investment with Dividend Reinvestment |
Stock Price Appreciation |
Dividend Payments on Original Shares |
Returns From Reinvested Dividends |
|---|---|---|---|---|
|
International Business Machines (NYSE:IBM) |
$16,390 |
$7,730 |
$1,586 |
$7,074 |
|
3M (NYSE:MMM) |
$36,513 |
$13,504 |
$4,942 |
$18,066 |
|
Coca-Cola (NYSE:KO) |
$85,258 |
$38,042 |
$10,952 |
$36,264 |
|
McDonald's (NYSE:MCD) |
$84,216 |
$56,238 |
$9,230 |
$18,748 |
|
ExxonMobil (NYSE:XOM) |
$82,706 |
$21,474 |
$7,223 |
$54,009 |
|
Consolidated Edison (NYSE:ED) |
$54,548 |
$7,481 |
$8,798 |
$38,268 |
|
PepsiCo (NYSE:PEP) |
$91,970 |
$43,495 |
$13,011 |
$35,463 |
|
Totals |
$451,600 |
$187,964 |
$55,743 |
$207,893 |
|
Portion Represented by Each Factor |
42% |
12% |
46% |
Take a look at the percentages along the bottom. Reinvested dividends nearly double the returns from the stock price and the dividends alone.
What would you rather do?
If you've been ignoring or spending your dividends because they don't look like they add much to your total returns, you can certainly continue to do that -- just be aware of the incredible amount of money you'll be leaving on the table over time.
But if you'd rather put all your money to work for you, then reinvest your dividends. By doing so, you put compounding to work for you to maximize your potential total long-term return.
At Motley Fool Income Investor, our goal is to help you compound your money as quickly and completely as it can compound. If you'd like to see which companies we recommend for both their likely price appreciation and their dividend payments, join us today with a 30-day free trial. Just click here to get started. There's no obligation to subscribe.
At the time of publication, Fool contributor Chuck Saletta did not own shares of any company mentioned in this article. Coca-Cola and 3M are Motley Fool Inside Value picks. Coca-Cola and PepsiCo are Income Investor selections. The Fool has a disclosure policy.
