What is a dividend?

Dividends refer to a portion of a company’s earnings that are paid to eligible stock owners on a per share basis, typically offered to investors on a regular cadence (for instance, quarterly).

In other words, for every share you own of a dividend stock, you’ll receive a dividend payment whenever one is issued. You can generate investment income by investing in individual stocks that pay dividends, as well as dividend-paying funds, like many mutual funds or ETFs. Remember, while dividends can play a role in a diversified, fixed-income portfolio, payments aren’t guaranteed for dividend stocks and the amount paid may fluctuate.


Dividend-capture strategies

You may wonder if there is a way to capture only the dividend payment by purchasing the stock just prior to the ex-dividend date and selling on the ex-dividend date. The answer is “not quite.”

Remember that the stock price adjusts for the dividend payment. You buy 200 shares of stock at $24 per share on February 5, one day before the ex-dividend date of February 6, and you sell the stock at the close of February 6. The stock pays a quarterly dividend of $0.50 per share. The stock price will adjust downward on February 6 to reflect the $0.50 payment. It’s possible that, despite this adjustment, the stock could actually close on February 6 at a higher level. It is also possible that the stock price could close February 6 at a level lower than the $23.50 price suggested by the $0.50 adjustment to reflect the $0.50 dividend.

For the sake of this example, assume the stock adjusts perfectly and you sell at $23.50 per share. Are you better or worse off for capturing the dividend? You will receive $0.50 per share in the dividend, but you’ll lose $0.50 per share because of the decline in the stock price. It would appear to be a wash. But what about taxes? Aren’t dividends currently taxed at a maximum 15% rate? The answer is “yes,” but with a catch. In order to receive the preferred 15% tax rate on dividends, you must hold the stock for a minimum number of days. That minimum period is 61 days within the 121-day period surrounding the ex-dividend date. The 121-day period begins 60 days before the ex-dividend date. When counting the number of days, the day that the stock is disposed is counted, but not the day the stock is acquired.

If the stock is not held at least 61 days in the 121-day period surrounding the ex-dividend date, the dividend does not receive the favorable 15% rate and is taxed at your ordinary tax rate.

To recap your dividend capture strategy:

  1. You paid $4,800 (plus commission) to purchase 200 shares of stock.
  2. Because you bought before the ex-dividend date, you’re entitled to the dividend of $0.50 per share, or $100. But because you didn’t hold the stock for 61 days, you’ll pay taxes at your ordinary tax rate. Let’s assume you are in the 28% tax bracket. That means your take after taxes is $72.
  3. You sold 200 shares at $23.50 for $4,700, a loss of $100 (plus commissions). You now have a “realized” short-term loss, which you can offset against realized capital gains or, if you have no realized gains, up to $3,000 of ordinary income.

In this case, the dividend-capture strategy was not a winner. You’re out the commissions to buy and sell the shares, you have a realized loss that you may or may not be able to write off immediately (depending on the amount of realized gains and losses you already have), and you lose the preferred 15% tax rate on your dividends because you didn’t hold the stock long enough.

Dividend investment strategies

There’s a misconception that dividend stocks are only for retirees or risk-averse investors. That’s not the case. You should consider buying dividend-paying stocks whenever you start investing to reap their long-term benefits. Dividend stocks, especially those in companies that consistently increase their dividends, have historically outperformed the market with less volatility. Because of that, dividend stocks are a great fit for any portfolio as they can help you build a diversified portfolio. 

There are a few dividend strategies to consider. The first is to build a dividend portfolio as part of your overall portfolio. When you’re building a dividend portfolio, it’s important to remember that paying dividends isn’t obligatory for a company in the same way that companies must make interest payments on bonds. That means that if a company has to cut expenses, the dividend could be at risk. 

You cannot completely eliminate the risk of a dividend cut, but you can lower the risk. Focus less on a company’s dividend yield and more on its ability to consistently increase its dividend. Look for a company with a sound financial profile focused on a growing industry. 

Another aspect of a dividend investing strategy is to determine how you want to reinvest your dividends. Some investors opt to reinvest their dividends manually, while others use a dividend reinvesting plan, also called a DRIP. This powerful tool will take every dividend you earn and reinvest it — without fees or commissions — back into shares of that company. This simple set-it-and-forget-it tool is one of the easiest ways to put the power of time and compounding value to work in your favor.

Another dividend investing strategy is to invest in a dividend-focused exchange-traded fund (ETF) or mutual fund. These fund options enable investors to own diversified portfolios of dividend stocks that generate passive income.

No matter what dividend strategy you use, adding dividend stocks to your portfolio can be beneficial. They can help reduce volatility and boost your total returns so that you can reach your financial goals a little faster.

Choose carefully

Before investing in any company, check whether earnings and revenues are growing and ensure it’s not overly burdened with debt. All of these factors have an impact on payouts.

But it’s not just about finding sustainable dividends. You should also seek firms that are set to increase their payouts in the future. Companies or groups with rising earnings and profits are much more likely to be able to raise their dividends because they have more cash on their balance sheet.

If you’re looking at a share for its income potential, always check its dividend cover. This is the most common way to see how robust and reliable a company’s shareholder payouts are going to be in the future.

You can work it out by dividing a company’s earnings per share (EPS) with its dividend per share (DPS). If a firm’s EPS is 100p and the DPS is 50p, then the dividend cover is two. A dividend cover of two or more generally points to a safer bet, while a firm with a cover of less than 1.5 could be a concern. But some companies, such as utility firms – which are renowned for having stable earnings – tend to be viewed as relatively solid payers, despite having lower cover levels.

Another way to find out how well a company’s earnings support its dividends is to look at the payout ratio. This is the dividend cover formula turned on its head – DPS divided by EPS. But the end result is the same – a dividend cover of two matches a payout ratio of 50%.

The upshot is that the wider the gap between the dividend and earnings, the more room a firm should have, in theory at least, to maintain its dividend if revenues and profits take a hit. Information on earnings, revenues, dividends and debt are available in company reports and on financial information websites such as Digital Look and Morningstar.

Dividend yield and other key metrics

Before you buy any dividend stocks, it’s important to know how to evaluate them. These metrics can help you understand how much in dividends to expect, how reliable a dividend might be, and, most importantly, how to identify red flags.

  • Dividend yield: This is the annualized dividend represented as a percentage of the stock price. For instance, if a company pays $1 in annualized dividends and the stock costs $20 per share, then the dividend yield would be 5%. Yield is useful as a valuation metric when you compare a stock’s current yield to its historical levels. A higher-dividend yield is better, all other things being equal, but a company’s ability to maintain the dividend payout — and, ideally, increase it — matters even more. However, an abnormally high dividend yield could be a red flag.
  • Dividend payout ratio: This is the dividend as a percentage of a company’s earnings. If a company earns $1 per share in net income and pays a $0.50-per-share dividend, then the payout ratio is 50%. In general terms, the lower the payout ratio, the more sustainable a dividend should be.
  • Cash dividend payout ratio: This is the dividend as a percentage of a company’s operating cash flows minus capital expenditures, or free cash flow. This metric is relevant because GAAP net income is not a cash measure, and various non-cash expenses can cause a company’s earnings and its free cash flow to vary significantly from one period to the next. This variability can render a company’s payout ratio misleading at times. Investors can use the cash dividend payout ratio, along with the simple payout ratio, to better understand a dividend’s sustainability.
  • Total return: This is the increase in stock price (known as capital gains) plus dividends paid. For example, if you pay $10 for a stock that increases in value by $1 and pays a $0.50 dividend, then that $1.50 you’ve gained is equivalent to a 15% total return.
  • Earnings per share (EPS): The EPS metric normalizes a company’s earnings to the per-share value. The best dividend stocks are companies that have shown the ability to regularly increase earnings per share over time and thus raise their dividend. A history of earnings growth is often evidence of durable competitive advantages.
  • : The price-to-earnings ratio is calculated by dividing a company’s share price by its earnings per share. The P/E ratio is a metric that can be used along with dividend yield to determine if a dividend stock is fairly valued.

Specialty Providers

There are a number of dividend-focused specialty resources available online for getting comprehensive information on dividends. Some of these sites are free, some have paid subscription content, and some have a combination of free and paid content. With these specialty providers, you might have access to a calendar of upcoming ex-dividend dates, as well as screeners, tools, and rankings. The Value Line Investment Survey provides a number of services to help investors select dividend stocks.

The relationship between dividends and market value

Dividend-paying stocks provide a way for investors to get paid during rocky market periods, when capital gains are hard to achieve. They provide a nice hedge against inflation, especially when they grow over time. They are tax advantaged, unlike other forms of income, such as interest on fixed-income investments. Dividend-paying stocks, on average, tend to be less volatile than non-dividend-paying stocks. And a dividend stream, especially when reinvested to take advantage of the power of compounding, can help build tremendous wealth over time.

However, dividends do have a cost. A company cannot pay out dividends to shareholders without affecting its market value.

Think of your own finances. If you constantly paid out cash to family members, your net worth would decrease. It’s no different for a company. Money that a company pays out to shareholders is money that is no longer part of the asset base of the corporation. This money can no longer be used to reinvest and grow the company. That reduction in the company’s “wealth” has to be reflected in a downward adjustment in the stock price.

A stock price adjusts downward when a dividend is paid. The adjustment may not be easily observed amidst the daily price fluctuations of a typical stock, but the adjustment does happen. This adjustment is much more obvious when a company pays a “special dividend” (also known as a one-time dividend). When a company pays a special dividend to its shareholders, the stock price is immediately reduced. 

What are the Dividend Aristocrats?

The Dividend Aristocrats refers to a group of companies from the S&P 500 that have increased dividends per share for at least 25 consecutive years. The S&P 500 Dividend Aristocrats ETF (NOBL) allows investors to easily purchase these companies that have consistently rewarded shareholders.

To be included in the dividend aristocrat group, certain criteria must be met:

  • Companies must be a member of the S&P 500.
  • Must have increased the annual total dividend per share for at least 25 straight years.
  • Must have a float-adjusted market capitalization of at least $3 billion.
  • Must have an average daily trading amount of at least $5 million.

The list of dividend aristocrats comprises 65 companies (as of March 2022) and includes well-known brands such as Coca-Cola (KO), Walmart (WMT) and International Business Machines (IBM), as well as lesser-known companies like Illinois Tool Works (ITW) and Expeditors International of Washington (EXPD).

Frequently Asked Questions

Do you have additional questions about building an investment portfolio for monthly dividend income? Check out these questions and answers.

What is a monthly dividend portfolio?

A monthly dividend portfolio of carefully selected stocks, mutual funds, and other predictable investments that pay dividends. When curating your investments you’ll want to look at when they pay dividends so that you’ll receive them each month of the year.

How much money do you need to invest to make $500 a month in dividends? To make $500 a month in dividends you’ll need to invest between $171,429 and $240,000, with an average portfolio of $200,000. The actual amount of money you’ll need to invest in creating a $500 per month in dividends portfolio depends on the dividend yield of the stocks you buy.

Things to watch out for

Taxes: It’s important to remember that dividend income is typically taxed at ordinary income rates if the shares are held in taxable brokerage accounts. To avoid this, you might consider owning the shares through a tax-advantaged account like a traditional or Roth IRA.

Dividends can be cut: Dividends are not guaranteed and sometimes companies are forced to cut them or eliminate them entirely due to financial difficulty. That’s why you need to watch out when a company pays a very high dividend. Sometimes that high yield really is too good to be true, and the high yield may be a signal that investors expect the company to cut the payout.

But owning a diversified group of companies through an index fund can be a great way to avoid the risk of picking the wrong company. In the past 50 years, the only meaningful decline in dividends per share of the S&P 500 index came during the financial crisis of 2008 and 2009 when many banks were forced to cut their payouts. Dividends fell 21 percent during that time frame, but have since surpassed the prior peak by a wide margin.

Rising interest rates: When rates go up, it could also pose a risk to funds and ETFs with high dividend yields. As rates rise, investors who have purchased dividend funds to boost their income may rotate out of high-yield stocks toward bonds or other assets, causing stock prices to fall.

How much money do you need to invest to make $500 a month in dividends?

To make $500 a month in dividends you’ll need to invest between $171,429 and $240,000, with an average portfolio of $200,000.

The actual amount of money you’ll need to invest in creating a $500 per month dividends portfolio depends on the dividend yield of the stocks you buy.

The dividend yield is calculated by dividing the annual dividend paid per share by the current share price. For $X you invest, you receive Y% in dividends back. Think of a dividend as your return on investment.

For regular stocks, it’s usually recommended to focus on dividend stocks with a dividend yield in the range of 2.5% to 3.5%.

One thing to keep in mind is the stock market in 2020 and going into 2021 was wild. The target benchmark might flex slightly compared to previous years. You’ll also need to decide if you’re ready to invest in a stock market with a lot of movement.

Estimate the amount of money you need to invest

For this example, let’s assume a 3% dividend yield, middle of the target range.

Many dividend stocks pay 4 times per year, or quarterly. To receive 12 dividend payments per year, you’ll need to invest in at least 3 quarterly stocks.

To estimate the amount of money you need to invest per stock, multiply $500 by 4 for the annual payout per stock, which is $2000. As you need 3 stocks to cover the 12 months, you’ll need to invest enough to receive total annual dividend payments of $6,000.

Dividing $6,000 by 3% results in a total dividend portfolio value of approximately $200,000. For each stock, you’ll invest approximately $66,667

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Brokerage Accounts

Many individual stock brokerage accounts provide online research and pricing information to their customers. Similar to the news sites, investors can easily find information on dividend amounts and payout dates, as well as other types of peer comparisons and screeners. An additional benefit for users of online accounts provided by a broker is the ability to tie into any current (or past) holdings from portfolios that are dividend-payers and generate additional types of personalized reports and analysis.



Dividends on January 22, 2018 at 8:53am

Where on your site can I view my dividends & also, how to know if they will be applied or held separately.


JT on August 12, 2018 at 5:02pm

I was wondering the same thing


Pamela on October 6, 2019 at 1:56pm

Are dividends safer than growth stocks?


Ally on October 16, 2019 at 9:47pm

Hi Pamela, if you’ll please give us a call at 1-855-880-2559 we would be happy to discuss your options with you.


Colleen on July 31, 2020 at 2:05pm

I’m also wondering where I can view my dividend history, and where they go. It appears that they’re being added to my cash fund, maybe? But I would like to see a history/log


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