Hi I'm Jimmy in this video
I'm going to walk through the truth
about dividends how they actually
work and if they are truly a good
thing for investors and if they are
a good thing which dividend stocks
are the best so at the most basic
level a dividend is when a company
pays a piece of their earnings to
shareholders.
Now there are a few different types
of dividends like cash dividends or
stock dividends.
In this video I'm going to focus on
cash dividends.
So many investors love dividends
and it's completely understandable
why as I've seen commented
in many different videos some of my
videos and some other dividend
related videos that dividends are
like free money but are they
really.
And clearly since I'm leading this
video with that topic I can safely
say that dividends are not free
money. Let me illustrate.
So here's an actual example of a
real company.
This company is called Warrior met
coal. Now they provide
coal mining services and as
we can see the stock is trading at
about the 30 to 33 dollar
range. Now what's interesting is
right about here this 30
dollar stock paid a
fairly large dividend relative
to the price of their stock.
Their dividend was about $4.41
when their stock went ex-dividend
on May 3rd.
Now if we're look at this chart from
that perspective then maybe we say
wow if we own this stock
before that date
then we would have received that
dividend. Now let's pretend that we
had bought this stock the day before
the ex-dividend date.
That way we do get the dividend so
we pay about thirty three dollars a
share and then the stock dividend
gets it goes ex the next day
and that's for 4 dollars 41 cents.
They knew the dividend was coming we
had plenty of notice they notified
us of that dividend at the end of
April. So if we had done some quick
math on the day that we bought the
dividend or we say OK we're gonna
pay thirty three dollars a share and
then we're going to get a cash
dividend of 4 dollars and 41
cents. And just like that we're up
more than 13 percent.
Sure in hindsight the stock has
drifted a little bit lower but
either way because the dividend
was so enormous we still look
like we're doing fairly well.
But as you might have guessed
doesn't actually work this way.
Yes. On May 3rd they really had
their ex-dividend date and their
cash dividend was really 4
dollars and 41 cents.
But the price chart.
Well this is the dividend price
adjusted chart.
Now this green line
this is the way the chart actually
worked out. Now this is the
truth about dividends.
Yes dividends are awesome.
And personally I'm a huge fan of
dividends. I'll tell you why in a
second but dividends
are not free money.
See this isn't unusual.
This is the way it actually works
not just for this stock but
for all stocks on the
ex-dividend date.
The price of that stock will
be reduced by the stock
exchange that that company trades
on. It will be reduced by
the amount of the dividend.
So in this case the dividend was
relatively large.
So we can see a fairly large drop
off. That's why I chose this example
to illustrate how it actually works
but it works the same for all
companies. The price of the stock
gets reduced by the stock
exchange that it's trading on
in order to compensate for the fact
that the dividend was paid.
If we've ever wondered why they call
this the ex-dividend date.
Well this is exactly why
on the ex-dividend date the stock
will trade without the value of the
dividend in the stock price.
Hence the term ex.
Yes. This also means that we need to
own the stock before the ex date
in order to be eligible for the
dividend. But on the ex-dividend
date the stock will trade without
the value of that dividend in the
stock price.
And if we think about it this
actually makes a lot of sense.
Dividends are essentially a transfer
of wealth not a creation of wealth.
In this example while this company
had 4 dollars and 41 cents in cash
per share on their balance sheet
they move that from their balance
sheet over to our brokerage
accounts. So it is simply a way to
move cash from their account to
our account.
All it does is changes who controls
the cash.
It doesn't actually create any
new value.
Now that actually brings us to a
different negative of dividends.
Net is that when they transfer that
cash from their account to our
account we get taxed on that income.
So does this mean that dividends
offer no real value.
Well that's not the case at all.
See many people live
off of the consistent dividends that
they get paid on the stock holdings
that they have.
And although dividends are taxed
if we hold a stock for long
enough. Well many of those dividends
will become qualified dividends
which get taxed at a significantly
better rate than unqualified
dividends.
But the real part the dividends and
dividend investing in general is
that investors love
dividends.
Now I was curious how good
dividend stocks do relative to non
dividend paying stocks and which
dividend stocks do the best.
And could we possibly understand why
and maybe we could use the
information from that to try to make
better investment decisions.
So here's a chart that I created
based on a back test that I did.
And basically what I did is I took
the S&P 500 and I broke it into
four different categories.
I took the top quarter of all
S&P 500 stocks ranked
according to dividend yield and I
took the top quarter of them grouped
them together.
I took the next quarter and I
grouped all those together.
Then the third quarter grouped all
those together. And then the final
one was I took whatever stocks had
a zero percent dividend yield.
This is their performance over the
past 20 years.
So we can see that our top
performing group was in fact the
second 25 percent
which means that it wasn't the
highest dividend yielding stocks in
the S&P 500.
It was the second quartile
of them. although the highest
dividend yielding stocks the
Purple Line No the top 25 percent
well they came in at a close second.
And then the third highest of being
yielding stocks and then finally in
fourth place. The 0 percent yield.
Then it begin to wonder was this
pattern true through different time
periods or was this 20 year time
period just a coincidence.
So then I shortened up the time
period from 20 years down to 10
years and as we can see
the second highest dividend paying
stocks were once again vying for
the top spot except for this time
they were fighting with the 0
percent dividend payers.
Then if we have the top dividend
payers, their the purple bar.
Well they're not too far behind
either and then trailing the whole
group similar to the last time was
the third highest dividend paying
stocks or in reality they're
actually the lowest dividend paying
stocks out of the S&P 500 companies.
But let's not stop there.
What about five years
so why shouldn't it be five years
just like the 10 year period the
0 percent group in the second
highest dividend paying stocks
they're doing the best while the top
dividend paying stocks in purple
they're vying for third place and
then in the last once again
is the bottom quartile or the lowest
dividend paying stocks.
So first let's look at why the
results would end up like this.
Then we could look at how each
category is broken down by dividend
yield and then perhaps we can use
that information to try to help our
portfolios.
Now I've done a lot of research
on dividend stocks in the past
and here's my best guess
as to why this would all shake out
this way based on the studies I've
done. Dividend paying stocks
typically perform the best coming
out of a down market and if we flip
back to the 20 year chart we'll here
we had two different market crashes
during this 20 year time period
where the dot com crash when we had
the great recession.
So the fact that dividend paying
stocks would perform so
much better over the 20 year period
makes a lot of sense.
Now if we shorten up this time three
to five years again.
Well here's my humble opinion
of how this could happen.
Specifically the zero percent or
the blue bar being near the top.
And to me this actually makes a lot
of sense. See when I first started
doing my research well I
thought I wasn't sure of dividend
stocks were actually going to be
able to outperform non dividend
paying stocks.
The primary reason was that
I believed that a dividend
paying stock is essentially turning
over cash to the investors
that they can no longer use to grow
their business.
That's the reason Warren Buffett's
Berkshire Hathaway doesn't pay a
dividend.
Why give that money to his
investors when he could use
that money and grow the company
at an above average rate.
And then in theory the price of
the stock would follow.
So the investors would essentially
get the same thing just at a better
rate of return.
So I figured that stocks that didn't
pay dividends would be able to grow
at a faster rate than dividend
paying stocks.
And that theory seems to have held
up fairly well.
Now what surprised me was that the
second highest dividend paying
quartile did as well as it did in
almost every time period we looked
at. It made sense to me that the top
paying dividend quartile wouldn't be
there because again in theory
they're paying out so much cash
that it's going to slow their growth
or at least their access to the
capital that they once had had they
not paid that dividend.
OK. So now let's look at the
dividend yield for each of the four
categories and see how that shapes
up. So my first thought
is that look at how much higher the
top dividend quartile is
on a dividend yield perspective
compared to the second to highest
quartile. Now we know that the
second highest quartile is the most
interesting one in this whole bunch
because it was at the top of all the
performance charts.
So how about we isolate
that line it by itself so we can
see that on the low end of the
chart. This group was paying about
one point seven percent and then
recently was paying right around the
two to two and a half percent range.
Now this two to two and a half
percent is an average.
And just so we're on the same page.
The way that I did this whole thing
is that I didn't annual rebalance.
So basically on December 31 of each
year I screened for what the
companies would have been on that
day and then sort
of them by yield and broken into
different categories then calculated
their total return and boom just
like that we have performance per
group. And if you're curious I
actually did this very test on
the S&P 500 stocks a few
days ago and these are all the
stocks that fell into the second
highest quartile of dividend paying
stocks within the S&P 500.
Based on dividend yield.
So as we could see the lowest
dividend yield of this entire group
was just short of 2 percent while
the biggest dividend yield was just
over 3 percent.
So if you see any stocks on this
list that you find interesting and
you'd like to see me do a video
review of that stock do a video
analysis let me know in the comments
below. So that is the truth about
dividends and all those stocks
that pay dividends are not a free
lunch because the price
of that stock is reduced
automatically to its
adjusted to reflect the amount of
the dividends.
But because so many investors
love dividends.
Well essentially dividend
paying stocks tend to outperform
non dividend paying stocks.
And if we focus on stocks that pay a
reasonable dividend yield not too
high not too low then
it's likely that those
dividend paying stocks will continue
to perform well.
They'll continue to have enough
capital to grow their business while
simultaneously paying out
a decent dividend yield.
So if you found this
video interesting don't forget to
hit the subscribe button at the
thumbs up. Thank you for sticking
with me all the way to the end of
the video please.
Any comments any thoughts you have
post them in the comments below.
I'm very curious to see what
everybody thinks of this concept in
general.
Thank you and I'll see in the next
video.