Wednesday, July 22, 2009

Reinvest Dividends Selectively

Reinvested dividends have contributed most all of the stock markets total returns over large periods of time. Some dividend investors automatically reinvest their distributions over time, which leads to compounding of their interest. Others do not re-invest automatically and instead wait for distributions to accumulate before adding onto existing positions or initiating new ones.

Dividends could be either sitting there or get reinvested. The beauty of dividends is that it is under the discretion of the individual investor to purchase more stock, buy equity in a different company/investment or spend it another way.

I do re-invest only a portion of my stocks directly; most other times however I let my dividends accumulate and I either re-invest in the same stock/s or in new stocks that have been on my watchlist.

It is important to keep costs as low as possible when allocating dividend income for reinvestment. Thus it is wise to open a discount brokerage account at places such as Zecco, Tradeking, Scottrade or Sharebuilder, which have relatively easy to use platforms and low commissions for stock trades.

I don't typically look at dividend reinvestment on an issue-by-issue basis, but through the lenses of a diversified dividend portfolio. If I had received enough dividends to purchase an additional position and I had to choose between investing in the energy company Chevron (CVX) or the consumer staple Johnson & Johnson (JNJ) I would most likely re-invest my distributions into the energy sector if I were under allocated there.I also do not re-invest dividends if the companies I own do not pass my entry criteria at the time or companies which are way off base my entry criteria. I am a little more relaxed when it comes to reinvesting dividends versus initiating a position in a stock. I could reinvest dividends even if the payout ratio increased beyond 50% to say 60% or even if the current yield is about 2.70% and not 3%. I am pretty strict however about not paying more than 20 times earnings on a given stock. This is the main reason why I automatically reinvest only some of my position in Realty Income (O).

Some attractively valued stocks for dividend reinvestment right now include:

Pepsi Co (PEP) analysis

Clorox (CLX) analysis

Automated Data Processing (ADP) analysis

Kinder Morgan (KMP) analysis

Sysco Corp (SYY) analysis

Selective dividend reinvestment avoids purchasing overpriced shares with your monthly or quarterly distributions, which could be a real drag on total returns and portfolio income. It is important however not to get overallocated in a particular stock or group of stocks as well, as diversification should be also taken in consideration when dividends are being reinvested.

Full Disclosure: Long all stocks mentioned above

This article was included in the Famous money quotes edition of the COPF

Relevant Articles:

- Zecco Online Discount Stock Brokerage Review
- Johnson & Johnson - a solid dividend aristocrat
- Dividend Portfolio Investing for monthly income
- Why should companies pay out dividends?


  1. I would consider SYSCO to currently be the best value of the names you've mentioned. P/E under 13x, yield over 4%. They'll pick up market share during this period and they have a great balance sheet.

  2. I am relatively new to dividend focused investing, but for the most part I am automatically reinvesting the dividends. My positions are relatively small - generally 3k-5k - so I have just found it easier and more convenient to sign up for DRIPs.

    I suppose if a core holding ran way up then I would unenroll on that security and maybe even sell but I intend for these to be very long term investments and am worried about overthinking each $40 dividend decision.

    I really like your list and own all except the KMP. I agree on the SYY, I just bought it a couple of weeks ago on a dip.


  3. Regarding overvaluation: passively reinvesting does save the time and trouble of trying to adjust to the market's valuation levels. On the other hand, using the dividends as part of a dollar-cost averaging program could better a passive-DRIP return without delving into strategies to spot over- or undervaluation.

    Of course, the additional funds have to be scraped up...

  4. I used to automatically reinvest, however I stopped because of the overvaluation problem. Pooling the dividends allows provides me with flexibility. However, I do not look for the most undervalued stock. Instead I use the money to fill up any areas that are off target for my asset allocation. This has allowed me to be able to focus on ensuring I am on the path to a correct and balanced asset allocation.

  5. Another discount brokerage is Interactive Brokers, the only caveat being that they have a US $10 per month minimum commission charge. Since I'm putting around $5k per month in, that doesn't bother me, but if you can't buy every month, that will be excessive.

    But what I like about it: US stocks cost US $1 to trade; Canadian stocks cost even less (at current exchange rates): CAD $1. Other exchanges are a bit more expensive: e.g., to buy on a Euro-denominated European exchange costs 4 Euro, which is a bit above US $6; to buy on the Australian exchange is AU $6, which is a bit below US $6. Hong Kong exchange stocks charge a percentage, but I've paid in the neighborhood of US $3-4 to buy those.

    There is a flat US $2.50 fee for a currency exchange-- but unlike buying a foreign currency through a bank, there is ZERO brokerage-imposed spread. If somebody is willing to sell you an Australian dollar for US $.93045 then that is exactly what you pay, and the brokerage just collects its $2.50 and nothing else.

    On the other hand, you can't automatically reinvest dividends (IB doesn't allow it), but that doesn't bother me because I add new money every month and just combine it with the accumulated dividends. And the fact that I get dividends paid directly in the underlying currency and don't have to pay those stupid rip-off ADR "pass-through" fees is a bonus. (Seriously, if you want to own shares of dividend payers like BHP Billiton or Total or Nestle or Unilever, why buy it on the US exchange? Just to put pass-through fees into some banker's pocket because you love bankers and want to help them out?)

  6. First off, love your articles. For someone who has been DG investing for only a relatively short time, you are doing a great job. I started DG investing in the early 1970's, and have been slowly "modifying" my criteria as time goes on, and as I have made intermittent mistakes. Try to learn from them, but NOT repeat them.
    As I am approaching full retirement (age 55 now), my portfolio has grown quite large, primarily thanks to continuous saving, investing, and reinvesting. My dividend income exceeds my needs now, so probably saving for the children/ future grandchildren. I take all dividends in cash now, and will reinvest dividends ONLY if the stock is significantly undervalued, and if it fits all my entry criteria and is not larger than 5% of the portfolio. However, for a younger DGI, reinvesting makes a lot of sense. One of the first stocks we bought was Exxon (XOM), it now is right at 10% with dividends reinvested. Obviously, I do not reinvest anymore due to its size now. In fact, sold a little this year to lower concentration.


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