Back in May 2018, I started my journey towards financial independence. I first picked individual stock but soon started investing in low-cost index funds. The index funds I purchased are basically a weighted basket of global stocks. Index investing is a great way if you’re starting out in the stock market and want to only dip in your toes. I’ve discovered a whole other pool: dividend investing, which I am diving in head-first.
In September of 2019, I will have my second mini-retirement where I will go traveling for three months through Central America with my partner. Because I don’t have any income when I’m doing that, I want to build up some passive income before I go.
I asked myself, what would be the difference if I’m still focusing on stocks but rather on dividend-paying stocks? I will have the same growth potential as regular stock and on top, they will pay me dividends regularly – which will give me passive income.
Right?
Passive Income
We all want passive income – it’s the classic ‘get rich while you sleep’. Everyone dreams about that (pun intended). Passive income is the main reason I am drawn to dividend investing. I would much rather see monthly cash flowing my way than holding a volatile lump sum of money. Ideally, I would combine the two. It’s a mental thing probably, but it’s my personal preference to still have some cash coming in every month.
Let’s assume your total income increases over time, whether it’s passive or active doesn’t matter. You will be able to save more $$$ each month, which means you can invest more each month in $$$. Because you can invest more $$$, your (dividend) income will increase, which means that you can save more, and so on. There is this positive reinforcing cycle over time, yay for that!
One assumption in this entire scenario is that you will be able to save more $$$ (absolute amounts, not percentages) when your income goes up. When this isn’t the case, you should have a look at the following articles:
Keep The Money
One sure way you can take advantage of your dividends over time is to directly re-invest them. Many people directly re-invest any dividends received to the stocks that paid them. Personally, I prefer to re-invest in a way that suits me at that moment. Regardless, the outcome stays the same: you’re reinvesting your dividends in the stock market for more growth.
In the first quarter of this year, I received $35 in dividends. Since I’m buying dividend-paying stocks with this, I’m already investing in getting more dividends for the rest of the year. The effects will be small, but I will repeat this habit over and over until the effects will be noticeable.
If you plan to excel in the big things, you have to develop the habits when they are still small. It’s also called the principle of how you do anything is how you do everything. If you won’t re-invest your dividends when you’re receiving $35 per year, you won’t re-invest them when you’re receiving $3,500 per year.
[Related Read: 6 Lessons Learned From Rich Dad Poor Dad Everyone Should Know]
Multiply The Money
Historically, the stock market moves up with an average of 7% each year. When the value of the stocks that pay you dividends go up, you’re gaining from that.
The important thing is not only to get stocks that move up but also seek out dividend-paying stocks that have moved up their dividends over the last decade or so. For example, Coca-Cola. A stock that has increased its dividends over the last 56 years! Over the years the stock increases in value, but also the dividends increased. Which means that you have a double advantage.
Let’s get that compounding machine going!
[Related Read: 4 Financial Lessons I Learned From RollerCoaster Tycoon]
Dividend Investing Is Just Like Eating Nachos
You love nacho’s right? Everyone loves nachos. Okay, so stocks have one thing in common with nachos. You can double dip – which is amazing. You don’t only want to have the growth of the stock (dip one), but you also get the dividends that are paid every period (dip two). The perfect double-dip is when your dividends are also growing over time. It’s like not only having sour cream but also guacamole with your nachos – living the good life.
Your money is compounding even faster. You’re investing your money in stock and you’re getting returns from that. Since that compounds over time, you will make a good profit. When you’re getting paid dividends on top of that, your compounding will go much faster. The additional income that you get, you can reinvest.
The double dip is awesome! You’re receiving additional income from your dividend-paying stocks and your stocks are valued more over time.
I’m easing into dividend investing and perhaps this introduction has provided you with some amazing first information. BUT, there’s one thing I’ve learned from personal finance: it’s personal. You should do what feels comfortable for you!
[Related Read: Investing For Beginners – Investing In Stocks]
As you know, I love investing in low-cost index funds. Perhaps the Vanguard High Dividends Yield ETF is something to consider. Lower risk, low costs, and higher dividend yields compared with a regular ETF.
Are you already focusing on dividend investing? If you have any additional articles, you can link them below!
Founder of Spark Nomad, Radical FIRE, Journalist
Expertise: Personal finance and travel content
Education: Bachelor of Economics at Radboud University, Master in Finance at Radboud University, Minor in Economics at Chapman University.
Over 200 articles, essays, and short stories published across the web.
Experience: Marjolein Dilven is a journalist and founder of Radical FIRE, a personal finance platform, and Spark Nomad, a travel platform. Marjolein has a finance and economics background with a master’s in Finance. She has quit her job to travel the world, documenting her travels on Spark Nomad to help people plan their travels. Marjolein Dilven has written for publications like MSN, Associated Press, CNBC, Town News syndicate, and more.
Thank you!
Just commenting to show my support. Your piece is well thought out Nice job!
Hi B,
In theory, dividends could hold back share prices. In practice, markets are not rational. If it’s a mature company with limited reinvesting opportunities plus excess cash, it’s hard to measure what the effects of alternative uses of cash are. They could retain cash or do share buybacks, measuring and comparing these strategies to dividend payouts would be very interesting. Unfortunately, I’ve already written my master thesis lol
But personally, I prefer companies paying my dividends compared to hoarding cash – which could lead to bad investments like mergers & acquisitions that aren’t adding any value.
I also enjoy getting cash from my investments, and to build more passive income. It’s a good way to lock in profits and have returns even when the market isn’t having it.
That said – I agree that past performance is not a predictor of future results, but it can be a good indicator when even through 2001 and 2008 recession the dividend aristocrats have been upping their dividends consistently year after year.
Would love to hear if you have any more thoughts on that!
I’m not focussed on dividend investing be it doesn’t matter! Stocks that pay out dividends don’t generate double returns. If you get a 3% dividend yield, this stock is not going to return 7% growth plus 3% dividends, rather 4% growth for a total return of…. (drumroll please) 7%.
Now the argument that dividend aristocrats have returned (remember; total return) more than other stocks in the past might be true but also might not be a predictor of future results.
Total return is the only thing that matters.