Dividends Explained

When considering how to buy shares, attention must be paid to the stock’s dividends.

Dividends are a share of company profits that are paid to stockholders of the underlying company.

They are usually paid twice a year on a ‘per share’ basis.  Dividends differ to fixed-interest payments in that the decision to pay the dividend, and the amount, are at the discretion of the company’s directors.

Dividends are indeed at a historical low. The global financial crisis hurt the profitability of many companies, and dividends fell in line with profits.  As profits fell, companies increasingly focused on preserving capital and reinvesting in the business rather than returning capital to shareholders.

Whether dividends are important or not depends on the nature of the investor.

Often you will find that high growth companies will not pay dividends, as they tend to re-invest their excess profits to continue their growth.

These stocks will typically have a rising share price, so there is little incentive for the business to pay shareholders who are already benefiting from owning the stock additional cash.

The more aggressive investors tend to favour low dividend/high growth stocks, as they consider the growth potential of the stock to be a greater source of return than dividends.

However, companies with good dividend yield tend to offer investors security and confidence in the business and also benefit from dividend re-investment.  Mature companies with stable profits tend to pay the highest dividends.  This is because they have less of a need to preserve their capital.

The more conservative investors may prefer the income security that dividends provide, as opposed to the capital appreciation potential of the underlying stock.