What Are Dividend Stocks and How To Invest In Dividend Stocks

If you are interested in investing or have any kind of interest in the stock market, you probably heard about dividend stocks. Dividend stocks make up a big part of majority of indexes around the world. Majority of investors also focus on dividend stocks and try to find the best dividend stocks with good yield. The main aim of dividend stocks is to have a cashflow coming in just from holding those stocks.

A dividend is a payment that a corporation makes to its shareholders. Board of directors decide this dividend payment and its amount. Corporations make these dividend payments frequently quarterly and might take the form of cash payments or stock reinvestments.

The dividend yield, which is the dividend per share, is stated as a percentage of the share price of a corporation, for example, 2.5%. If a common shareholder of a dividend-paying company owns the shares on the ex-dividend date or earlier, they are eligible to receive a payment. The thing that puts many people off from dividend stocks is the low yield. Because the yield is low, you need huge amount of capital.

Most of these things are wrong and dividend stocks are not just about putting capital in. This article will explore more about dividend stocks, go in depth about the reasons and how to invest in them and top it up with best dividend stocks to invest in 2022.

How to Invest in Dividend Stocks: A Guide to Dividend Investing | The  Motley Fool
Simple Dividend Explanation by fool.com

Understand Dividends

Shareholds (board of directors) must approve dividends by using their voting powers. Cash dividends take up most of the divident payments but they could also come in as stocks. Some exchange-traded funds (ETFs) and mutual funds also distribute dividends.

A dividend is a type of compensation payment that a corporation makes to shareholds for their investment in the firm. This dividend payments usually comes from the profits of the company. Although, a company do not distribute its entire profits. Some profits stay in the business to use for operations and further investments and others goes to the shareholders. Not every company chooses to do so and invest all of their profit back into the business if they don’t pay a dividend.

There are some companies that still pay dividends even if they don’t generate enough money. They do this to keep their proven record of dividend payouts. The board of directors has the option to declare dividends at various intervals and at varied distribution rates. Companies may pay dividends on a regular basis, such as once a month, once every three months, or once a year. For instance, Microsoft (MSFT) and Apple (AAPL) consistently pay dividends on a quarterly basis.

Companies might also pay non-recurring special dividends. This special dividend could be seperate or an addition to a regular dividend payout.

Why Invest in Dividend Stocks?

Dividend stocks and dividends plays an extremely important role in contributing to the indexes. They increase its value over time with dividends and their value appreciation. However, many people say that the yield you get from dividend stocks are extremely low and that you can invest that money somewhere else to get more return. Even though that could be fundamentally through, there is more to it.

Stocks that pay dividends give investors a method to get paid during uncertain market. These times are times when capital gains are challenging to realize. They might offer some protection from inflation, particularly if they continue to expand over time. Compared to some other types of income, they have tax advantages. Stocks that pay dividends typically exhibit lower volatility than non-dividend paying stocks. And a dividend stream can assist in accumulating wealth over time, particularly when reinvested to benefit from compounding.

You Don’t Need a Lump Sum

When you invest/start to invest in dividend stocks, you don’t put a whole sum into it, you buy it over time, maybe a decade, maybe longer than that. In time, the more you buy it, the more capital you have with value increase in the capital. You can also do DRIP (Dividend Reinvestment Plan) by investing every bit of dividend you get back into the dividends.

Apple is Berkshire Hathaway’s largest holding, Apple accounts for roughly 40% of Buffett’s investment portfolio, and the more than 907 million shares held will generate almost $835 million in passive income in 2022.”

fool.com

This way, over time, you will have a lot of money in capital without investing that amount of money. The whole point of dividend investing is to accumulate a lot of money over time (with capital appreciation and DRIP). Also, the more you hold on to a stock, the more they increase their yield and the stock price goes up, your yield on cost also increases.

Are Dividends a Good Investment?

Dividend investing is generally a great investment strategy. Historically, dividend stocks are less volatile and they have beaten the S&P 500. This is due to the fact that dividend stocks offer two types of income: consistent dividend income and stock price growth. Over time, this overall return may increase in both types.

Dividend stocks frequently appeal to investors searching for reduced-risk investments because they have lower volatility. They are beneficial particularly those in or approaching retirement. But if you don’t know what to steer clear of, dividend stocks might still be dangerous.

How Much Stock Do You Need to Get a Dividend?

There is no minimum limit as to how much stock you need to own to be eligible for dividends. If you are not buying fractional shares, you will be eligible for a dividend the moment you buy your first stock. In addition to that, if you buy it before the ex-dividend date, you can get the next dividend. If you buy it after the ex-dividend date, you need to wait for the next payout.

If you are buying fractional shares, there might be a differentiator there. You are still eligible for dividends when you buy fractional shares. However, if you buy an extremely small chunk where you get a dividend for a penny, you will generally not get this dividend. Your brokerage could explain this in detail. The minimum fractional amount you need to own to get dividends depends on your brokerage.

Do You Pay Taxes on Dividends?

The majority of dividend stocks make their payment with “qualified” dividends. These dividends can have taxation anywhere between 0% to 20%, depending on your tax level. Compared to the 10% to 37% or higher ordinary income tax rates, this range is much lower. You pay an additional 3.8% tax on certain stock investments for high earning ones.

Even though the majority of dividends can have lower tax rates, some are “ordinary” or non-qualified dividends. They are subject to the higher marginal tax rate. Due to their corporate arrangements, some stock types are designed to have high dividend yields but may also have higher tax liabilities. The two most popular ones are master limited partnerships, or MLPs, and real estate investment trusts, or REITs.

Nevertheless, if your dividend equities are in a tax-advantaged retirement plan, such as an individual pension plan, this additional tax burden does not apply (IRA). Yet, investing in MLPs may occasionally result in tax debt, including on your IRA.

Can You Live off-of Dividends?

Many people invest in dividend stocks to live off with them in their retirement or earlier. With dividend stocks, however, since your yield is about 3% on average the need for money is bigger. You need a massive capital appreciation or cash at hand to be able to get high dividends to cover your costs. That is why most people start dividend investing at a young age so that they are in advantage later in life.

In short, the answer to the question is definitely yes. You can live off of dividends. However, do not forget that it might take a while to get to the level where you can live off of dividend stocks because of the capital need and a rather lower yield on your investment. You also need to pick the right stocks that will not go under if you are investing in individual stocks.

How Does a Dividend Work?

A dividend works pretty simple. When you buy a stock of a company, you are a partial owner to that company. The company’s management and biggest shareholds that are eligible to vote decide to pay back to other shareholders in dividends. They issue a payout date and an ex-dividend date. On the payout date, you get your share of the dividend as a shareholder.

Companies pay these dividends from their earnings. The main idea is to redistribute the profits of the company to the shareholders back. This allows for shareholders to earn cashflow while their capital is appreciating. However, it is worth noting that on the payout date, the stock’s value will go down as per the dividend amount. As an example, if stock A is worth 100$ and pays 1$ per dividend, it’s stock price will go down to 99$ on the payout date.

It’s price generally bounces back to the old price in a few days but it still faces a drop in its value for a short value since they are paying that money back to the shareholders.

Are High Yield Stocks Risky?

However, even though dividend stocks seem like a safe bet for many, there are also risks if you make wrong choices with your stocks, you might end up losing your capital along with the dividends coming in. However, it is a possibility that you can outperform the market more with individual stocks.

There are several factors to look for when choosing dividend stocks and some of those main factors include a stock’s dividend history (if they are a dividend aristocrat or paying dividends for at least a decade continously), debt-to-income ratio, their profit and business model, and dividend yield increases over the year. If even one of these factors seem faulty to you, you should stay away from that stock. For example, Altria (MO) is a tobacco company with a 7% yield.

This yield is extremely high (except for REITs because they are legally bound to spend 90% of their income on dividends) and generally not sustainable. This stock lost 31% of value over the last five years. This stock is a capital-eater. However, they have been paying dividends for decades now. Even though they are able to sustain dividends, their stock price is going down.

That is why generally, stocks with high yields are dangerous stocks if they are not REITs. It is normal to see high yields with REITs, as I mentioned above. Nevertheless, be careful with normal stocks if they have a high yield.

How to Invest in Dividend Stocks

Investing in dividend stocks are pretty much the same with investing in other stocks. If you have a brokerage account, you can just buy a dividend stock and when the time comes for the dividend distribution, you will get your fair share if you bought before ex-dividend date.

Ex-dividend date means that you have to own the stock on that date to be entitled to the next dividend that the company will pay. Even if you sell the stock after ex-dividend date, since you hold it on the ex-dividend date, you will still be entitled to the dividend of the stock only for the next one. The one after that will again have an ex-dividend date where you have to hold the stock.

Best Dividend Stocks 2022

There are many different stocks out there and how good they are totally depends on the market. However, in the long-run, some dividend stocks will always make you some bucks both in dividends and in capital appreciation. I picked some of the best stocks that you can take a look at for 2022. These are not investment advice but rather a path to help you.

  1. Exxon Mobil Corp. (NYSE:XOM)
  2. Realty Income Corp. (NYSE:O) [REIT]
  3. Apple (NASDAQ:AAPL)
  4. Main Street Capital Corp. (NYSE:MAIN) [REIT]
  5. Johnson & Johnson (NYSE:JNJ)
  6. AbbVie (NYSE:ABBV)
  7. VICI Properties Inc. (NYSE:VICI) [REIT]
  8. McDonald’s (NYSE:MCD)
  9. Microsoft (NYSE:MSFT)
  10. Protector & Gamble (NYSE:PG)

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