Maybe you’re lucky and have some extra cash in the bank and want to spend it wisely.
Maybe you want the money to grow, but you aren’t a stockbroker by any stretch of the imagination.
If you want your money to grow steadily and not be tempted to spend, then dividend reinvestment might be the answer.
With a dividend re-investment plan, or DRIP, you can reap the benefits of compound returns on your dividend stocks. Your dividends are automatically funneled back into buying shares of your chosen stock, even if you don’t have enough in dividends to buy a full share.
Your dividends can purchase fractional shares or full shares through a broker or an investment company. Over time the dividend reinvestment plan can yield high returns with low maintenance.
What exactly is a dividend re-investment plan?
The name is fairly self-explanatory, a DRIP takes dividends you receive and automatically reinvests them for you.
Instead of receiving a check or cash in your brokerage account, a DRIP allows investors to automatically reinvest the dividend into the purchase of stocks directly from the company.
A dividend reinvestment plan can save an investor a considerable amount of money on investment transaction fees and make the investment process streamlined and relatively worry-free. Does it sound too good to be true? DRIPS have their own set of drawbacks as well as advantages.
Advantages of a Dividend Reinvestment Plan
Here are some of the advantages of setting up a dividend reinvestment plan with your brokerage. After we go through these, we will also go over any disadvantages.
Commission-free stock purchases
With a dividend reinvestment plan, there are little to no investment transaction costs. Brokerages generally charge a trading commission each time you purchase stocks, and although the prices may seem negligible at the start, they do add up and eat into your interest.
For example, on a 100-dollar investment for which a brokerage would charge you a trading commission of $6.99, over 30 years, this may amount to a total of $840, which could have been put to better use.
Your interest compounds faster
Receiving cash dividends into your brokerage account feels great, but your money is lying idle when you could use it to create more wealth.
With a DRIP, your cash dividends are set to work automatically at the date of your dividend payment.
These new shares can be earning interest immediately. With the ability to purchase fractional shares on a DRIP, you can put each dollar to work as soon as possible, which is as soon as the company issues your dividend payment to you.
DRIPs are open to all levels of investors
Stock brokers have made it easier than ever to set up a DRIP for most of your favorite stocks.
The method of reinvestment can vary based on the brokerage, but even if you can’t find a DRIP, any investment app that has passive investing capabilities can be used as a makeshift sort of DRIP.
Advantages of Dollar-Cost Averaging
Dollar-Cost Averaging (DCA) is an approach to investing where a total investment amount is split up into equal purchases of a stock over a period of time.
This spacing of purchases reduces the risk of fluctuations over time by adapting stock purchases to current market over time, in other words, instead of trying to time the market, DCA allows investors to acquire companies for their average price.
A DRIP does that automatically by reinvesting in your chosen stock/fund at regular intervals and lessens your risks the volatility of the stock market.
The automatic nature of a DRIP makes it perfect for passive investors who like slow and easy returns over time.
Disadvantages of a Dividend Reinvestment Plan
Reduced flexibility and liquidity
If you’re only investing in stocks that allow you to take advantage of a DRIP, you may be missing out on some good money-making opportunities
As a DRIP takes advantage of dividend stocks, which are a long term investment, these funds won’t be very liquid, in practice.
You can always sell your securities when you need access to capital, but that isn’t typically the best way to handle dividend stocks, unless you know exactly what you’re doing, of course.
You need to pay taxes on your dividends
What does a dividend reinvestment plan cost?
Most DRIPs not only allow investors to buy shares at no or very low commission, but they also allow a discounted rate to the general share price.
Most of the established DRIPs do set dollar minimums and won’t allow investments lower than $10.
Is a Dividend Reinvestment Plan the Right Choice?
Despite the disadvantages, the advantages of a dividend reinvestment plan make this an excellent choice for long-term term investments.
With little to no headaches regarding the timing of the market or when to buy or sell, investors can compound their interest over time and create wealth.
The Dollar-Cost averaging nature of a DRIP investment lessens investor risk in a volatile marketplace, which these days… may be just what you need.
We hope that’s all you needed to know about DRIPs.
If you have any more questions, be sure to ask them in the comments! Thanks and have a wonderful day.