A friend told his three children that the family needed to lower its cost of living in order to pay off the mortgage and other debts more quickly. The children responded enthusiastically. One suggested eliminating all brand-name goods from the shopping list. Another suggested selling the car to cut never-ending costs. The third suggested selling the house!
Edges add up so start investing in DRIPs young!
Our friend was pleased to see that rather than having to impose frugality on his children, he needed to try to keep it within bounds. “What I had in mind,” he explained “was a little less dramatic. Keep the doors shut when the air conditioning is on, turn off the lights when you leave a room and don’t take a big glass of milk unless you’re sure you can finish it. Savings like these may not sound like much, but they add up.”
In other words, keep a close eye on the pennies, and the dollars will take care of themselves. The thing is, this household-budgeting principle also applies, up to a point, to your investment strategy.
Early in their investing careers, many inexperienced investors launch the financial equivalent of a blitzkrieg. They hope to deal with all their financial and investment problems in one great coup. They squander time and money on investment short-cuts—chasing hot mutual-funds, plunging into cheap stocks, trying to apply chart-readers’ techniques. Eventually, though, most come to realize that investment success is a less dramatic and longer-term process.
Start to DRIP young
That’s when they start to get interested in matters such as dividend re-investment plans, or DRIPs, and cash option plans (you add cash to buy more). The savings of investing through DRIPs may amount to only a percentage point or two a year, as you pay no fees, quit losing money to the bid-ask spread and get a discount on reinvested dividends by a dozen or so of our Key stocks. But these minor edges add up—they compound, to put it in financial language.
In fact, a study examined the importance of reinvested dividends in the U.S. stock market from 1926 to the millennium. It found that, “$1.00 grew to $105.96 as a result of price appreciation, with no dividends reinvested, but $1.00 grew to become $2,591.79 with dividends reinvested.” These edges do add up!
Then, too, DRIP investing also forces you into another low-key but highly-effective investment technique: you can only do it in companies that pay dividends. As we often say, sticking to dividend-paying stocks helps you side-step most of the market’s worst mistakes, while enabling you to profit from the long-term rising trend in stock prices.
A record of paying dividends is, of course, a crude guide to investment quality. You also need to consider a company’s earnings history, its current outlook, management integrity and so on. Still, attention to dividends gives you an edge over investors who disregard them. It makes it that much more likely that, over the course of an investing lifetime, you’ll beat average stock market returns. Also, most stocks that offer DRIPs and cash option plans are of higher investment quality.
DRIPs automatically reinvest money, even in uncertain times like these. This lets you profit from dollar-cost averaging. That is, invest fixed-sums at fixed intervals and you buy more shares at low prices and fewer shares at high prices. That way, you end up buying most of your shares at average prices. Give yourself an investing edge through DRIPs and cash option plans.
This is an edited version of an article that was originally published for subscribers in the October 7, 2022 issue of The Investment Reporter. You can profit from the award-winning advice subscribers receive regularly in The Investment Reporter.
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