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 around price gyrations, yet dividends have historically accounted for more than half of total returns.
Reinvest those dividends, and your results become even greater. Take Dow Chemical
Source: Capital IQ, a division of Standard & Poor's.
There's no ambiguity here: Over time, Dow's share appreciation alone has paled in importance to the power of its reinvested dividends. The results are similar for other chemical companies like BASF (OTC: BASFY) and Lubrizol, which is about to be acquired by Berkshire Hathaway
And how do Dow's dividends look? The company had to slash its dividend during the recession -- a big deal, since it had previously raised or maintained its dividend every quarter since 1912. Dividends per share have since been raised, but still remain below pre-crisis levels. Even so, its current yield -- 2.8% -- is moderately high by market standards. Over the past year, Dow's dividend used up 60% of its free cash flow, a fairly safe level. This is still a high-quality company that should produce above-average dividend returns for years to come.
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.
- Add Dow Chemical to My Watchlist.
Fool contributor Morgan Housel owns shares of Berkshire Hathaway. Follow him on Twitter @TMFHousel. The Motley Fool owns shares of Berkshire Hathaway. Motley Fool newsletter services have recommended buying shares of Berkshire Hathaway. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.