Earning on dividends

Earning on dividends

2021-09-16 • Updated

What are dividends

Owning a stock of a public company means being one of its shareholders. As such, you’re entitled to a part of the company profit proportionate to your ownership as you’d be in any other case where you have a share of a business. That’s what makes stocks potentially more attractive against other asset types: you can have additional income earning dividends on top of the usual value gains and closing trades with profit.

How does it work

Value gains

When you trade any asset, you buy at a price and sell at a higher level. The difference is your profit. It’s exactly the same with stocks, and your profit in this case would be called a value gain – because you’ve managed to profit on the higher value the stock came to have. That’s what makes trading stocks similar to other assets.

Dividend income

In the meantime, while you’re holding a stock, you’re entitled to get the profit its company made during the last quarter. If you have the stock at hand on the day of the dividend payout date – you’ll get it. So, it’s additional income on top of the abovementioned value gain/profitable trade opportunity. That’s the advantage of trading stocks against, say, currencies.

How to earn dividends

First, careful

Not all stocks pay dividends. You have to know which ones do - a Dividend Calendar shows them.

How often

Normally, dividends are quarterly payments. That means you receive your share of the company profit every three months.

When exactly

How to know what day the dividend is paid on? Once again, the Economic Calendar – Dividend section will help you.

How much exactly

Every company decides that according to their dividend payout policy. Generally, if 30-40% of the company’s net income is distributed among shareholders, it’s considered a standard payout ratio (a percentage which the total dividends for distribution take in the total company net profit).

Dividend gap

There is a time lag between the date of dividend announcement and the date of the dividend payout. After the dividend amount is announced, the market reacts to it the same way it reacts to anything else: if the actual figure is higher than the expectations, the stock value rises; if it fails to meet the forecasts, the value drops. This relation allows specific stock-trading strategies.

General stock dividend trading strategy: buy and hold

A simple position-trading approach. Buy a stock with healthy growth prospects and keep it for months and years. Eventually, you will potentially see it rise in value and while you’re holding it, dividends will be coming to your account every three months. It is recommended that you buy at local drops to ensure maximum value gain possible whenever you choose to sell the stock.

Buy-the-gap stock dividend trading strategy

As this strategy implies being date-specific, here you go with some terms.

Dividend announcement date

That’s when a company announces the amount of the coming dividend – upon receiving this information, the stock may rise or lose value depending on whether the market was satisfied or unamused with the announced dividend. Usually, during the announcement, record date is set.

Record date

Essentially, it’s a “cut-off” day: if you’ve been the last one to hold the stock when this day comes, you’ll receive the due dividend. If you get the stock after the record date, you’re not entitled to the coming dividend payout. Rather, you’re in for the next one. Now, in order for the last owner of the stock to get the dividend due on the record date, the dividend amount is deducted from the stock value one working day before the record day – that’s the ex-dividend date.

Ex-Dividend date

Therefore, one business day before the record date, the stock will see its value reduced by the dividend amount – that’s a dividend gap, and that’s when you may consider buying a stock at a lower value.

Example

May 6 saw the Prizer stock open at a sudden drop to the support of $38.40 that made the price bounce upwards at the end of April. As the due dividend was cut off the stock value on May 6, the stock got down from the new high of $41 to the support of $38.40 – that was a dividend gap. Prudent traders were there to pick it up and eventually see it gain value at $40.40. That’s how you trade the dividend gap.

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One last thing

From the S&P 500 list, there are companies that have been consistently paying and increasing their base dividend on a yearly basis. That means, over years and decades, their shareholders have been enjoying higher dividend incomes apart from mostly increasing stock value. Here are some of them to trade with FBS: 3M, Coca-Cola, Johnson & Johnson,  Procter & Gamble, PepsiCo, McDonald’s, Walmart, AT&T. 

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