Investing in a Dividend Stock

By Stock Research Pro • October 28th, 2008

The term dividend stock describes a stock that offers payments to an investor for owning shares of that company’s stock. Some, but not all, companies offer dividends to their shareholders and there are both advantages and disadvantages associated with a dividend stock.

When a corporation makes a profit, that money can either be re-invested in the business (retained earnings), or it can be paid to its shareholders in the form of a dividend. Some companies keep some of their earnings and pay the rest as a dividend. Dividends are normally issued in cash as payment from the company to the shareholder. Many companies offer reinvestment plans under which the cash dividend can be used by the shareholder to purchase additional shares.

Dividend payment methods

Dividend policy is the strategy a company uses to determine the amount it will pay its shareholders in dividends. There are various dividend payment methods the company may employ, including:

Residual- Payments come out of leftover equity only after the company meets all of its capital requirements

Stability- The company sets dividends at a fixed percentage of annual or quarterly earnings

Hybrid- Offers a combination of the two, with a set dividend and the possibility of a residual as on top of it

The Case Against Dividend Payments

Arguments against investing in a dividend stock include the taxation on the dividend and the belief that, if the firm reinvests these funds instead, the company’s profits and stock price will grow, providing a more powerful benefit to the investor.

The Case for Dividend Payments

Many investors believe that stocks that pay substantial and growing dividends offer downside price protection along with the potential for share price growth. A high dividend payout can also offer investors a degree of comfort and certainty about the
financial health of the company. Dividend payments are, of course, attractive for investors seeking investment income.

In a volatile, uncertain market investors seek stable stocks that provide a generous dividend. A dividend stock can provides a conservative, longer-term investment that can help see investors through tough economic times.

Click here to learn to calculate a dividend yield


The above information is educational and should not be interpreted as financial advice. For advice that is specific to your circumstances, you should consult a financial or tax advisor.

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