To DRIP, or not to DRIP, that is the question…

To DRIP or not to DRIP - DRIP Investing

Ah, the joys of dividend investing. Every month/quarter/year you receive a return on your investment in the form of a dividend payment. For some people, this is a pretty substantial amount of money, and for others, like myself, this has yet to reach a significant level of income. From reading and following various blogs and investors, there seems to be a couple of different thought processes behind deciding whether or not to “DRIP” the dividends received.

What is a DRIP?

A Dividend Reinvestment Plan, or DRIP, is a plan by a company to allow investors to automatically reinvest their dividends in the stock of the company instead of receiving the dividend payment as cash. In lieu of a company offering a direct reinvestment of your dividends, some brokers facilitate the reinvestment of dividends into partial share purchases. Regardless of the behind the scenes setup, the overall concept for the investor is the same.

For example, if you own 100 shares of McDonald’s (MCD), which pays a quarterly dividend of $0.77 per share, you would receive a cash payment of $77 every quarter. With dividend reinvestment, this $77 would be reinvested into shares of MCD. Assuming MCD is trading at $100 per share, you will pick up an extra .77 shares. With this reinvestment, your next dividend payment will be $77.59. While that $0.59 doesn’t sound like much, by reinvesting your shares, your dividend payments for an individual stock will increase exponentially over time as compounding and dividend growth take over.

Should I use DRIPs?

Is automatically reinvesting your dividends in the same stock the best means of reinvesting? Unfortunately, this isn’t a simple yes or no question; I believe the thought process to evaluate the preferred method for your portfolio requires looking at your portfolio in two different ways.

First, I believe you must examine the dividend income level of your portfolio. If you are like me, and are just starting out with dividend growth portfolio, your overall dividend income per year is relatively small. By manually reinvesting your cash payments into new holdings, you are increasing your dividend base, but also incurring some trading commissions on this new investment, and will not be able to reinvest the income very regularly. This is independent of the addition of new capital into your account.

Second, is your portfolio’s asset allocation and diversification. By reinvesting your dividends back into your current holdings, you are required to add funds, or sell pieces of your current holdings to add diversification. I believe this corresponds directly to the relative size and desired amount of holdings in your particular portfolio. Generally speaking, if your target portfolio contains 20-25 core holdings, it might be advantageous to focus your reinvestments on expanding your portfolio and diversifying your holdings if you have yet to reach your portfolio target.

If you have reached your target portfolio size, and are simply just monitoring your holdings and making additional purchases within your current holdings, then reinvesting the dividends directly would save you the commission expense incurred by doing this manually.

As a note, most online brokers give you the opportunity to set your entire portfolio on a dividend reinvestment plan, or on an individual holding basis.

My portfolio

With my dividend goal for 2013 of $700, it would take most of a year before I would be comfortable reinvesting this money, without “packaging” it together with additional contributions. With a commission of $4.95 at TradeKing, a $700 dollar investment would generate an expense of 0.7%. While this doesn’t sound like much, it certainly can add up quickly; as a result my ideal investment would be no smaller than $1,000, resulting in a 0.5% commission expense.

Until I can start adding significant funds to my investment accounts, which is pending the resolution of my rental house disaster, I plan on using the DRIP method to reinvest my dividends. Once my dividend level reaches approximately $2,000 per year, I plan on reevaluating this strategy. I will consider a change of methods at that time if it makes more sense to take the cash dividends and reinvest manually. Additionally, if/when my personal cash flow is significantly freed up by getting rid of the house, I will also reevaluate this method. With regular contributions, the compounding lost by just sitting on the cash will be minimized.

Do you reinvest your dividends? Why or why not?

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  1. We’re reinvesting all of our dividends currently. We usually have a few times during the year where we buy large lump sums (eg. bonuses or “extra” paycheques) so that’s when we diversify if needed, typically.

    • Thanks for chiming in Outlier! Generally speaking, this is how I plan on investing, at least for the first couple of years. It will allow me to take advantage of the natural compounding of reinvestment while any new capital is put to work elsewhere.

  2. I’ve gone back and forth on this, but all of last year I was reinvesting dividends. I’ve turned the DRIP off for a few of my holdings and think that in the future this will be the route I take. Selectively turning the DRIP on and off while the core holdings (KO, PG…) are kept on always.

  3. I always DRIP! I am in this for the long term and there is no reason for me to take hold of the small dividends at this point. After doing the math implementing the DRIP in safe dividend paying stocks really pay off in the end.

    • Thanks for commenting BBBI! I totally agree that dividend reinvestment is the way to go. However, it was curious to me to see some people who don’t, which led me to ponder (and write) about the DRIP and the decision to implement one.

  4. Like the previous commentor, I’m in it for the long term as well. I’ll leave my DRIPS turned on until I get close to retirement and want the passive income of have a better use for the money.

    • Thanks for commenting Mr. 1500! I completely agree that as of now that is the way to go. Certainly down the road it might be something to reconsider, but I have no plans to change things at this time.

  5. An excellent point to note about DRIPs, some of the best offer Direct Stock Purchase Plans. These allow you to buy stock without the aid of the broker. Most of the fees with them are one-time and only reoccur when a sale is placed on your holdings. Even better, some of them are completely free to invest and make small contributions (Eaton, CSX, The Limited, etc.) until a sale occurs. These can work incredibly well for those intimidated by the overall market and more advanced trading techniques such as those involving options and futures. However, they do work incredibly well with those investments. I have put together some excellent resources for getting started on these on my blog I would invite you to check out.

    • Thanks for commenting YI! I agree that purchasing directly through a DSPP can be a nice benefit to those who have small, or even large, amounts to invest. As you have said, they are ideal for those who have little to no interest in trading options or futures, and want a low cost means of investment.

  6. I’ve turned off some of my drips. If the PE is too high and I’m buying partial shares at too high of a price, I’ll have the money placed in my sweep account. I’ll be able to accumulate the extra money tax free, since it’s in my Roth, and make purchases when the cost basis is lower, or I’ll use the money to purchase another drip stock I couldn’t otherwise buy because of the dollar limit on Roth contributions. I’m eventually hoping to save enough $ in a taxable account to build my drip, but that may have to wait until I’m working part-time in retirement in a few years, since I’m focused on paying off my mortgage.

    • I am getting closer to the point where I will be turning my own DRIPs off as well. I should be in a position shortly to regularly commit additional capital to my DG portfolio, and this should allow me to take advantage of those dividends coming in to supplement the additional capital for purchases.

      Thanks for stopping by!

  7. I’ve been going back and forth on this a lot in my head becuase I still have a rather smal portfolio. My current approach is (since I’m making a new purchase of about $1000 a every otehr month, I take whatever dividends came in and add it to that pile of cash for the purchase. So if during that two month period I made $20 in dividends, I now look to buy $1020 worth of a stock. I figure since I was already going to pay a commission, my dividends can get a free ride in on the next purchase, and wil be used to buy a stock at the price of my choosing based on value, instead of a potentialy inflated price.

    • Jon, I don’t think there is anything wrong with combining your new capital with dividends received. When I started my DG portfolio, capital available for allocation was a bit sparse, so it didn’t make sense to collect the dividends before reinvesting them. Now that I will likely be contributing regularly, I will probably reconsider my the direct reinvestment that is currently going on.

      Best of luck on your journey!


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