What are dividends?

Dividends represent a portion of a company’s earnings paid to their shareholders. In most cases, dividends are paid on a quarterly basis. However, there are a few companies that pay dividends monthly or issue a “special dividend” on certain occasions. For example, Canadian National Railway (CNR) issues a quarterly dividend of $0.845 to their shareholders for every one share they own. If you own ten shares of CNR, you would therefore receive a quarterly dividend payment of $8.45.  

When strong companies have high consumer demand and consistent revenue growth, they can reward their shareholders by increasing their quarterly dividend. Shareholders benefit from the increasing dividend because it results in an increase in income that can be used to allow their investments to compound further or cover life expenses.

It is important to focus on the cash flow of your investments and the quality of the companies you own rather than be solely fixated on the fluctuating market value of your portfolio. While the price of a company may be down, it does not always reflect its profitability. There are a variety of factors that affect share prices, including political climate, interest rates, investor confidence in the stock market, and much more. For instance, companies with high consumer demand (because they provide products and services we use every day and are growing), can continue to increase their dividend due to their increase in cash flow.   

Dividends for growth and income

Dividend-paying stocks offer both growth and income to help achieve a target return. Dividends have historically accounted for a substantial portion of stock market returns. Beyond generating a steady income stream, dividend-paying stocks offer capital appreciation potential and a layer of protection against inflation. Over the past 50 years, dividend income has contributed an average of 32% to the S&P/TSX Composite’s annual total return. The impact of dividends on equity returns can be further enhanced through reinvestment. By reinvesting these payouts into additional shares, investors can leverage the power of compounding, which helps amplify total returns over the long term.

Another worthwhile feature of dividend-oriented investing is that income distributions have historically outpaced inflation over the long term. Since 1998, dividends on the Canadian stock market have increased at an annualized rate of roughly 6.4% per year, compared with 2.2% for inflation.

Dividends to manage risk

Dividend-paying stocks have a distinct advantage during periods of market volatility. While non-dividend paying stocks need earnings growth and investor optimism to support their price, the income from dividend-paying stocks gives them intrinsic value, even in volatile markets.

The relative stability of dividends can cushion portfolios during periods of economic uncertainty and stock market volatility, providing returns even when stock prices fall. In addition, the consistent stream of dividend income from your portfolio can help supplement your income. It will also reduce or eliminate the need to sell stock and realize losses in the short term when the stock market fluctuates.     

Dividends for tax-efficient investing

Canadian dividend income in non-registered accounts is eligible for a dividend tax credit that can result in a preferential after-tax return. The benefits of growing dividends can be further taken advantage of by holding dividend-paying companies within tax-sheltered accounts like the Tax-Free Savings Account (TFSA). The TFSA allows your investments to grow and compound tax-free, which will allow your savings to grow at a faster rate.

Dividends can ultimately enhance returns without adding undue risk to a portfolio, provide a cushion against market volatility and generate a growing stream of reliable, tax-advantaged income.

If you could benefit from our services, and would like to discuss how you can grow your investment income during your working years and into retirement, please do not hesitate to give us a call. We would love to help in any way we can!

 

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