The Art of the DRIPs
What are the DRIPs you ask? Well, it is not the dripping of the faucet in the bathroom that keeps you up all night! DRIPs stands for dividend reinvestment plan. Which means that it is a plan that allows investors to reinvest their dividends into buying more shares of that particular company. This is usually done in fractional shares or additional shares.
DRIPs are an awesome way to increase the value of your investment. One of the cool things about this reinvestment plan is that it allows you the ability to buy more shares without paying an additional purchase price. With DRIPs, you don’t receive a dividend check tempting you to cash it out or use it to pay bills. Every penny in dividends is automatically reinvested for you to purchase additional shares of the company. These additional shares produce dividends, too. By allowing the dividends to be reinvested, you tap into the power of compounding growth without ever having to think about it. More on this in a moment.
Choosing which companies to reinvest your dividends in can be difficult but one easy way to choose is to look for companies that are stable, share holder friendly and will be around for 10, 20, or 30 years.
These types of companies commonly referred to as dividend aristocrats. These companies have paid higher dividends each year for 25 years or more. Some examples of these companies are AT&T, Aflac, Chevron, Coke, Pepsico, McDonalds. This is to name a few. These are solid companies with increasing dividends and great balance sheets to help them keep increasing their dividends.
When we refer to companies that are shareholder friendly we are referring to business’ that are looking at ways that they can increase their bottom line to enhance their equity that they can return to their shareholders. They understand that this is very important to the long term viability of the business and will continue to provide them with the equity or cash to continue operating their business.
At last count there were 142 companies that have increased their dividends for the last 25 years. In fact, eight of these companies have increased it for the last 50 years!!
So how exactly do DRIPs work? There are three ways currently to enroll in the programs. One is to do it directly through the company itself. An example is 3M Corp. They allow you to enroll in the no fee DRIP from their website and you can purchase the shares you would like. Some companies even offer IRA accounts with their DRIP. Second would be transfer agent run. Transfer agents are financial institutions that run DRIP programs for many companies. Because they can use the same resources for a number of customers, transfer agents can often provide DRP management services at a lower cost than the company could achieve by itself. Another option is to enroll in DRIPs thru your brokerage service. Most brokerages will offer this service if you request it. I use Tradeking, which I love by the way. They have some of the lowest trade fees and they offer no fee DRIPs for most companies you wish to buy. A great example of a company that encourages DRIP investing is Proctor & Gamble which allows customers to purchase shares for free via recurring debits.
The key is to look for companies that will not charge you a transaction fee for each reinvestment. Otherwise that would eat into any profit you might make with your investment. Whichever broker you use just inquire about their DRIP program and any fees they might charge. Another thing to mention is that while purchasing the shares thru these programs are fee, selling them is not. Typically they will charge a minimum fee as well as a percentage of each share. So it is very important to inquire about the fee structure before you purchase. These rules will apply for either a brokerage firm or direct purchase from the company itself. Also inquire about minimum share purchases as some companies will require this.
So let’s talk a little math. How does this actually increase my earnings with the companies that invest in? When you purchase shares through your broker you aren’t actually able to purchase fractional shares but with DRIP investing you can. So suppose you earn $100 in dividends and the shares cost $35. Instead of buying only two shares for $70 and having the other $30 hanging out on the sidelines, you can buy 2.86 shares and put all of you money to work for you. So every quarter that you earn dividends you will increase your shares of your company which will increase your dividends for the next payout. This allows you to tap into compounding growth without ever having to lift a finger! Awesome.
DRIP investing is all about the long haul. It is designed for long term growth and a great way to increase your earnings. It also a fantastic way to start investing even if you don’t have a lot of money to start with. It will allow you to start investing and see those investments grow without having to sink a ton of money into it. It is also the perfect vehicle for dollar cost averaging which we will discuss more going forward. And it is ideal for companies that you plan on owning for a long, long time.
There are some great calculators out there to help show how this strategy can help your investments grow even without you managing it on a day to day basis. Next week will discuss dollar cost averaging and what kind of great benefits this can have for you in your retirement plan.
Please let me know if you any questions, comments or concerns. And until next time please take care.