Do You DRIP?

This article originally appeared on The Div-Net July 14, 2011.

DRIP stands for Dividend Reinvestment Plan. This plan is offered by corporations as a way to reinvest cash dividends by purchasing shares or fractions of shares on the dividend payment date. A lot of retail investors participate in such plans as a way to cheaply reinvest dividends back into the company that paid them.

There are many benefits of participating in a DRIP. It allows you to build a sizable position over time through reinvesting your dividends. Some dividend reinvestment plans even discount the share price at time of reinvestment. Usually the plans come with no commission fees, or very low commission fees. It also allows you to buy fractional shares that wouldn’t be available otherwise.

I don’t personally DRIP.

Here’s what I do:

I wait for my dividends to accumulate over the course of a month, as I usually invest once per month. I inject fresh capital into my brokerage account shortly after receiving my large commission check from my day job and combine that fresh capital with my dividends that I’ve received over the past month. I take these two combined sources of capital and invest it in the most attractively valued business available at the time of investment. This investment could be in the company that paid a majority of the dividends from the past month. It also could be a new company, that I don’t have any investments with before time of purchase. It might be with a company that I currently have a position with, but didn’t pay dividends in the previous month. The key is, it doesn’t matter to me whether I reinvest the dividends back into the company that paid them. Once I receive the dividends in my brokerage account, I try to reinvest that capital in the best way I see fit.

Here’s why I do it:

I don’t DRIP because I like to have control of how I reinvest my dividends. If all my dividends were set on auto-pilot and reinvested themselves back into the company that paid them out I would feel a severe lack of control. I like to have control of my destiny and finances, whether it’s for the best or not. Another reason I don’t DRIP is because the company that paid the dividends may or may not be attractively valued on the day the dividend is paid. For instance, if Coca-Cola is trading for 30 times earnings on the day the dividend is paid I don’t necessarily want to reinvest that dividend into Coke. I could probably find a better value in the market to reinvest that fresh capital into. There are also tax consequences to consider when participating in a dividend reinvestment plan, as the fees and commissions a DRIP administrator pays on the investor’s behalf counts as taxable income.

I can certainly see the benefits and the drawbacks to a dividend reinvestment plan. I have decided that for me, personally, I would rather reinvest my dividends as I see fit.

What about you? Do you DRIP?

Thanks for reading.

Comments

  1. says

    I do exactly the same thing DM! But for a few exceptions (I have ADRs in an IRA and I do an automatic re-invest since I lose on non-reclaimable foreign tax otherwise), I accumulate dividends and use that to invest in other companies.

    The money sits in a bank account, may not be the most efficient, but like you, I like the control it gives me.

    Great point on the valuation of the company on the day of reinvestment!

  2. says

    MoneyCone,

    I agree, it may not be the most efficient…but on the other hand reinvesting into an overvalued company is also not very efficient.

    I’m glad you also like the control. I feel that taxes, fees and everything else aside I really like the control of reinvestment. I’m going to pay a commission feel when I invest my capital anyway, so it’s free control.

    Take care!

  3. says

    Hey Mantra,

    I DRIP.

    Here in Canada, I have full DRIPs (with optional cash purchases with no transaction or commission fees) and I have synthetic DRIPs (my discount brokerage buys whole shares).

    With the latter, I can dollar cost average my shares over time – I never have to worry about timing the market.

    In the U.S., as a U.S. resident who owns dividend-paying stocks, I am curious:

    -Do you guys have any government tax credit for owning U.S. dividend stocks?

  4. says

    MOA,

    I fully believe in a dollar cost average strategy. I agree with you on that.

    I am not aware of any tax credit for owning U.S. stocks. If there is something I should be aware of, I’d love to hear it. I’m always interested in tax breaks!!

    Thanks for stopping by.

  5. says

    DM,
    I do both however I have seen that DRIP can be beneficial over the long run. AS you know I wrote about something similar few weeks back.
    Inq

  6. says

    Inq,

    I see your point. I do agree that there are many benefits to participating in a DRIP program. I wish you the best of luck in maximizing those benefits! It can certainly build large positions over time.

    Thanks for commenting.

  7. says

    Kanwal,

    Yes, that was my main point. There can be many benefits and drawbacks laid out for a DRIP, but I feel the biggest drawback is possibly buying overvalued shares.

    Take care and keep in touch.

  8. says

    I DRIP, largley because while I may sometimes get shares at a peak, there’s also the opposite effect, getting shares at a low…as well, with many stocks, you can get a discount on the shares (one of my stocks, Superior Plus, offers shares at a 5% discount to the average price from the previous week on its DRIP plan, so it’s often an immediate 5% gain).

    My employer plan is pretty awesome as well, they match my personal stock contributions, and the dividends DRIP for fractional shares. I wouldn’t want it any other way there. I am going to be doing a post some time soon about employer stock plans…I love mine, and working for a major telecom in Canada, it’s a very beneficial one on the dividend front

    That being said, I can see the value in the way you do it as well, and certainly don’t have an argument with it.

  9. says

    Neu Grufti,

    Thanks for putting up some awesome benefits of the participating in a DRIP. The immediate 5% gain is pretty great.

    I wish I had an employer plan like that. My employer doesn’t even match 401k contributions. Most here in America will match up to 3%, at the least. Mine gives nothing. It’s unfortunate.

    Sounds like you have a pretty good plan set up!!

  10. says

    Hey Mantra,

    By not DRIPing you are not taking full advantage of the magic compounding from dividend income. This will have a huge impact on your overall wealth 10 to 20 years down the road ;) You should DRIP your shares as soon as you are able to, since you are starting so young. That after all is the compounding money machine we strive for as dividend investors:

    Time + Compounding Dividends = Wealth.

    The reasons NOT to DRIP:

    1. You don’t have enough shares to DRIP
    2. You don’t want to add more shares to a company because something has changed in the outlook or management.

    The reasons to DRIP:

    1. You don’t pay commissions on the shares you reinvest. You get to add more shares to yor favourite companies at not cost.
    2. You add new shares over time, Dollar cost averaging your holdings (highs and lows which you can’t guess).
    3. Your compounding snowballs, becuase you keep adding more shares to your original investment.

    I understand you like to have control over your purchases, and choose what investments to buy or sell – believe me I understand that :)

    But since DRIPping is such a small number of shares, it will hardly affect your overall ACB whether the price is high or low. In fact you will come out ahead by DRIPping becuase it will smooth out the ride.

    Cheers
    The Dividend Ninja

  11. says

    Ninja,

    Thanks for stopping by. :)

    I agree with you in the fact that there are many benefits to participating in a DRIP, and probably many more benefits exists than drawbacks.

    However, just because I don’t DRIP does not mean I don’t reinvest my dividends and compound my dividend income. I just may choose not to compound my dividend income with the investment that paid the dividend in the first place. I still reinvest all dividend income every month, as I’m not living off it yet. Sometimes I do reinvest the dividends back with the company that paid them, and sometimes I don’t (depending on valuations). Reinvesting my dividends (along with fresh capital) is vital to my financial freedom.

    I do agree with you that a DCA strategy is vital and that’s why I try to engage in valuations and read into ratios. I also invest every month, which is principally what a DRIP is all about. My way of investing is much more time consuming than just buying 15 positions and setting them all up on a DRIP.

    Take care!

  12. Anonymous says

    DM,

    Consider the advantages of using the synthetic DRIPs available via some brokerages (e.g., Fidelity, Schwab, etc.). You can selectively pick which stocks you want dividends reinvested for, and can turn that feature on and off at will. This allows you to easily turn off the automatic investment if you feel a stock is becoming overpriced, thus giving you the control you want in investing those funds elsewhere, while retaining the advantages of commission free investing for the other stocks that remain under or fairly priced.

    Just my two cents…

    – Main Street Investor

  13. says

    Anonymous,

    I wasn’t aware of such a feature that could be turned on and off at will. I currently go through Scottrade, but that is certainly something to look into. That actually seems like a pretty attractive feature!

  14. says

    I did used DRIP on some of my earliest stock purchases. I did increase my investment in these stocks. However, there was a lot of record keeping involved (so you could calculate ACB). Also I ended up with odd lots of stocks that were harder to sell. I haven’t done this for years.

  15. says

    SPBrunner,

    That was one drawback I considered but failed to mention in my article. Of course, as an investor one should be pretty astute at record keeping, but a DRIP makes it that much more time consuming.

    Thanks for stopping by!

  16. Pey says

    Mantra,

    One reader brought up a good point which I don’t believe you addressed.

    When DRIPing, you pay no fees to purchase your stock with dividends. When collecting dividends to purchase a different or the same stock, a transaction fee arises. Worse still, if you’re collecting KO’s dividend only to realize you like the valuation and want more KO, you’re paying brokerage fees when a DRIP would have no fees.

    I DRIP all my dividends but I’ve gone back and forth with this idea of yours as well. I’ve convinced myself market timing is difficult and I can DCA with DRIPs. It doesn’t get any easier or safer.

  17. says

    Pey,

    Thanks for stopping by and adding to the discussion.

    I agree with you on the lack of fees. However, I invest once a month, usually, no matter what. So I do pay at least $7/month through Scottrade for one purchase. Sometimes I make two purchases. So…whether or not I DRIP I still pay my transaction fees. The only difference between participating in a DRIP like you, and doing what I do, is that you automatically reinvest the dividends back into the company that paid them and I have the choice of whether or not to do that.

    I also believe in a DCA strategy. I usually purchase the most attractively valued equity I can on any given month, as I also do not believe in market timing. In the instance of your KO example, if I was to take my $1,500 monthly contribution and buy KO stock, I would simply add my dividends to that capital and purchase, let’s say, $1,700 in KO stock. So…in that example I still purchase the stock I want, with the brokerage fee I was already going to pay..but the difference is that I have control over the purchase.

    I hope that clarifies my stance.

    Take care and please comment back if I wasn’t clear.

    Thanks :)

  18. Pey says

    Thank you for your reply, DM!

    I certainly understand your argument and it’s very strategic and ultimately a reasonable way of going about adding to your dividend portfolio. As I mentioned, I’ve looked into the strategy you’re using quite extensively and, although I haven’t convinced myself it would be advantageous for me, I do believe it’s a sound way of going about adding to your holdings.

    I’d just like to make one distinction, though, because I feel this point is very important and is necessary to the scope of this conversation: Using your dividends to selectively purchase shares of companies in which you own is, essentially, a form of market timing. I say this because even though you’re purchasing well established, dividend-paying picks when they appear to seemingly have attractive values, it is still possible they do not have as significant of a margin of safety as you believe them to possess. In other words, there’s a chance you may have incorrect intuitions about their true value and you may be purchasing them at the wrong times.

    Using your dividends to repurchase shares quarter after quarter will allow you to truly DCA your dividends into the market, reducing risk by purchasing more shares when the price is attractive and less shares when the valuation is significantly higher than the actual worth.

    I also want to be clear: You seem incredibly versed on the topic and appear to have great strategies for your retirement, but the reality is it’s impossible to predict the way of the market and it’s conceivable that adding to your holdings at various times could potentially underperform should you be incorrect with your valuation. At least with DCAing, I can be spread the risk around and not rely on my stock picking abilities — essentially my ability to time the market.

    I don’t want to discredit your strategy, however, because I believe it can be incredibly effective. My only point is it’s also important to realize this method inherently adds risk to your returns while also possibly allowing you to “beat” an individual stock return.

  19. says

    Pey,

    Thanks for the well-thought response.

    I suppose it really comes down to what your definition of market timing is. According to Investopedia it is:

    “The act of attempting to predict the future direction of the market, typically through the use of technical indicators or economic data.”

    I don’t really use technical indicators and I don’t trade on trends.

    I suppose you could time the market using internal factors and external factors. If you were to define it that way, internal factors would be pricing inefficiencies and external factors would be natural disasters, politics, economic data, etc.

    If you were to define it that way, I don’t use external factors to my advantage, for the most part. I invest monthly, so I will inevitably invest in times of distress and naturally pick up values based on a depressed market.

    I do try to use internal factors, based on assuming the market is inefficient. I try to expose pricing inequalities and purchase what I think are *relatively* under-priced securities. That is relative to the general market.

    But if I receive most of my dividends on 9/15/11 and they automatically get reinvested…or I take the dividends and add my capital and invest on 9/15/11…it’s still investing capital and reinvesting dividends. Whether having dividends automatically reinvested, or manually reinvesting dividends, in that manner it’s still trying to achieve a fairly balanced DCA strategy of purchasing equities through ups and downs.

    Again, it all comes down to your definition of market timing. I don’t trade on trends and I don’t pay attention to charts. I look at price/value inefficiencies…and that may very well be market timing. I simply purchase monthly, no matter what. If I really wanted to try and time things, I would keep my capital in a MMA and wait for a severe market drop or some type of natural disaster. Of course, I would miss out on that magical dividend compounding.

    Thanks for stopping by and commenting!

  20. says

    Mantra,
    Don’t you think setting up a DRIP for all your stocks would make sense now? Stock prices are going to be very cheap for a while, and you don’t really need to pick and choose at these prices. You will be reinvesting everything cheap without paying commissions :)

    Have a nice weekend!

    Cheers
    The Dividend Ninja

  21. says

    Ninja,

    This is a fantastic buying opportunity regardless of whether a DRIP is set up. I actually didn’t receive any dividends through the major dip. My last dividend received was my smallest of all…from Sysco on 7/22. I usually buy after my commission check is received, so I’d have to pay a commission to my brokerage no matter what.

    I was lucky and just happened to receive a large check from work on the biggest market drop in three years. Great timing!

    You have a great weekend too!

  22. says

    Hi DM,

    I’ve been thinking about this post over the past few weeks, most likely because I’ve been going back and forth with the idea of DRIPing my dividends or using your style of what I still believe to be some form or market time DCAing into your positions.

    I’m a big fan of your articles and have read all of them from July and August. I can’t help but notice it sounds as if you’re making at least three purchases this month instead of the one larger purchase you mentioned you routinely make. It is a good idea to note this will certainly raise your brokerage fees while using the DRIP would not. I understand you may have made these purchases anyway, especially since the market is trading at attractive multiples, but this would definitely make a stronger case for using the DRIP.

    Another thing I’ve noticed is that it’s become increasingly difficult to determine valuations over the past week. It almost seems like most stocks are more reasonably priced than they’ve been all year. This makes the case that using the DRIP would prevent the unfortunate mistake of picking one stock over the over because the valuation appeared better. It could be argued that in this type of market, where bargains can be found all around, the DRIP would protect you from making inappropriate choices based on the fact valuations are much harder to determine.

    Again, I don’t necessarily believe one or the other is more advantageous for me and everyone is entitled to their own path, but I still feel the DCA protects us from making valuation errors and is truly the best method for DCAing. We could go back and forth on the definition of market timing, but I would argue buying stocks at various times because you believe them to have a significant margin of safety is inherently a form or market timing.

    Nevertheless, I wish you the best of luck and I look forward to reading your future posts! Keep ‘em coming!

  23. says

    Another thought:

    Right now, your dividends appear to provide about $75 a month or so of “income,” but what happens when this number increases substantially with your account balances? When you’re receiving $2,000 a month in dividends, will you still believe your method to be preferred over the DRIP?

    The stakes might seem a bit higher when you know you’ll potentially be placing a large sum of money on the line, but possibly not.

    I’m curious what your thoughts on this might be, too. Have a great weekend!

  24. says

    Pey,

    Thanks for responding! I really love chatting about all this. It’s wonderful to exchange ideas.

    I have been making more than one purchase a month lately. I’m glad you noticed that. That has been more or less a product of the fact that I have cut down my budget quite a bit since the blog started and my income was higher than normal due to sales. With more capital I had a chance to improve my diversification across multiple positions. My income has been trending lower the last month or so and I will probably go back to one purchase a month in the mean time. My purchases all depend on how much capital I have. My one rule is that a purchase should generally be no less than $1k. I prefer it higher to cut down on brokerage fees in the sense of a percentage on purchase.

    My dividend income will of course increase to much higher levels in the next few years. Once I’m receiving dividend income anywhere near $2,000 a month I’ll be living off of it. That is one more reason I don’t DRIP. I plan on living off my dividend income at a young age, instead of continuing to produce wealth. It’s a missed opportunity for some people, but for me it’s buying time…a commodity that is not for sale.

    It really all comes down to preferences. If I wasn’t investing once (or more) a month I would probably DRIP to increase my wealth through monthly compounding. That would be a commission-free way to buy more shares. It would make no sense to make monthly $75 purchases. Your brokerage fees would more than eat into any potential profits. But, since I am already going to invest once (or more) a month anyway, I decide to pool those dividends in with my capital to make purchases.

    You can say it’s market timing. It may very well be. But again, the point is that I’m going to make a purchase anyway, so pooling in those dividends simply makes my purchase larger than it otherwise was going to be. If those dividends eventually become large enough to warrant their own purchase, then I’ll make a purchase. Although, as I explained, by that time I’ll probably be living off the income or I’ll be very close to doing so.

    Thanks for continuing the discussion and I’m glad you picked up on my purchasing frequency. I’ve been very fortunate that I’ve been able to make more than one a month lately.

  25. says

    Enjoy the post & comments. I do a hybrid approach myself – have some DRIP accounts that reinvest dividends and then have some in brokerage that I allow the cash to pool and then use to make purchases when I have identified a good opportunity. I think both approaches can work well.

  26. Anonymous says

    Lol..! We’re all spliting hairs here! Both way’s work just fine and have close to the same number of pros and cons. The auto drip is easy and has less fee’s. Pooling the divs seperate and then selecting under vauled stocks offers more controll and thus gives the investor the positvie reinforcement to keep going.

    As long as the dividend capital is being reinvested into more asets that produce more capital, in the end, both way’s will prove to be very profitable.

    I do both. Depending on my mood.

    It just takes time.

    Scott

    • says

      Scott,

      I agree. They both have their pros and cons, and an individual should simply pick the strategy that best suits their temperament. I personally prefer reinvesting manually, but there are many others who would prefer the investing be more automatic.

      Thanks for adding that!

      Best regards.

  27. patty says

    ok, well I think I need some help, I have read a few of your blogs, I am a novice investor, years ago someone told me to get involved with DRIPS, i have$37K now in drips, it looks as if i can request my dividends in cash instead of reinvest them, then I probably could use more of your strategy. however, i do like the fact it automatically invests and I do not have to think about it. My concern is that I am not keeping good records, and i do not even know how to compute cost basis, maybe if i was not reinvesting dividends but still invested quarterly in each drip manually the record keeping would be much easier. Help!

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