BC: EINSTEIN'S MOST POWERFUL FORCE
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One Way to Double Your Returns
By Chuck Saletta
January 12, 2010
As a stock investor, your returns are typically driven by three things:
Share price increases
Dividend payments
Reinvestment
Generally speaking, share price changes get the most attention, since stock prices are nearly always moving and have the biggest short-term impact on your net worth. They are, in a word, exciting.
But while the other two may not grab the headlines, over the course of your investing career, they can play a huge role in determining what you end up with.
Dividends are typically small. They may only represent a few percentage points worth of return in any given year. Over time, though, that small payment can add up to some serious cash.
And if you reinvest those dividends -- letting time and compounding have their way with your money -- you could be looking at significant returns.
Imagine you own a stock with a 3% yield and reinvest your dividends. If share prices stay constant, after a year you'll have 3% more of them, and after two years you'll have a bit above 6% more shares than you started with, and so on.
Each of those shares can grow, earn additional dividends, and compound your money right along with the ones you originally bought. If the company raises its dividend as its earnings increase over time, then all your shares benefit from that increase, and your compounding can work much more quickly.
In other words, what looks like a small effect at first (i.e., reinvesting your dividends) can make a significant difference to the bottom line.
Want to see the math?
Just look at what each of these household-name companies would have returned with and without reinvesting dividends over the past 30 years.
Company
Total Return of $1,000 Investment with Dividend Reinvestment
Stock Price Appreciation
Dividend Payments on Original Shares
Returns From Reinvested Dividends
International Business Machines (NYSE: IBM)
$16,390
$7,730
$1,586
$7,074
3M (NYSE: MMM)
$36,513
$13,504
$4,942
$18,066
Coca-Cola (NYSE: KO)
$85,258
$38,042
$10,952
$36,264
McDonald's (NYSE: MCD)
$84,216
$56,238
$9,230
$18,748
ExxonMobil (NYSE: XOM)
$82,706
$21,474
$7,223
$54,009
Consolidated Edison (NYSE: ED)
$54,548
$7,481
$8,798
$38,268
PepsiCo (NYSE: PEP)
$91,970
$43,495
$13,011
$35,463
Totals
$451,600
$187,964
$55,743
$207,893
Portion Represented by Each Factor
42%
12%
46%
Take a look at the percentages along the bottom. Reinvested dividends nearly double the returns from the stock price and the dividends alone.
What would you rather do?
If you've been ignoring or spending your dividends because they don't look like they add much to your total returns, you can certainly continue to do that -- just be aware of the incredible amount of money you'll be leaving on the table over time.
But if you'd rather put all your money to work for you, then reinvest your dividends. By doing so, you put compounding to work for you to maximize your potential total long-term return.
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