Dividends: Wait, you mean I get paid cash for just holding stock?
Yes, dividends are straight cash payments from corporations directly to their shareholders. If you own McDonald’s stock in your brokerage account, every quarter they’ll send you some of that cash money.
Sounds sweet, right? Why do they do that you may ask. Let’s back it up and talk about why you would own stock at all. Companies need cash to do things like build factories, expand their offices, or start a new line of business. They can get cash by issuing stock – allowing the public to buy ownership shares of their company. They then use the cash received from that to do what they want. So they want to sell you their stock and need to provide you with some incentive or value in return.
The two main ways you get value from holding stock are appreciation and income. If you buy stock in Google, it’s because it’s a fast-growing company and you think it will continue to innovate and become more valuable, growing from a modest search engine to a multimedia conglomerate pursuing smart homes technology, driverless cars, and space travel. As Google becomes more valuable, your share of Google becomes more valuable. Then you can sell it to someone else at a gain or profit.
But not all companies are like Google. Some are solid, stable businesses that don’t operate in a sector where fast growth is feasible. Think about a food company like Kraft-Heinz. They’re not hoping for skyrocket valuation growth from a new line of mustard. They need to attract investors, so they pay out a 5% dividend each year. If you hold their stock, regardless of where the company value and stock price goes, you’re receiving cash. So holding $1,000 of the stock pays you out $50 cash per year. Interesting right? So without a dividend, a growth company will have to appreciate by at least 5% per year to be a more valuable stock for you to hold. Also sounds a lot better than the 0.5% your savings account is paying you, huh?
Now you’re educated in the world of income-oriented investing. Go get that bread.