How Dividend Stocks Can Help Your Portfolio

Posted: 10 Jan 2012 04:00 AM PST

One of the rising trends regarding investing is the use of dividend stocks. Dividend stocks are becoming popular because they tend to fall less during times of economic upheaval than their non-dividend-paying counterparts. Additionally, the payouts from dividend stocks make it possible for investors to receive income that is above and beyond the value of the stock.

Carefully investing in dividend stocks can help your portfolio in two main ways: Helping you create an income stream from your investments, or allowing you to boost your investment and earn money faster

Using Dividends to Create an Income Stream

Some companies make regular payments, out of the cash and profits they have, to shareholders. Shareholders receive a certain amount per share monthly, quarterly, semi-annually or annually. If a company pays $0.30 a share each quarter, and you own 100 shares of a company, you sill receive $30 every three months from that stock.

If you are investing in dividend stocks in an effort to create a regular stream of passive income, you might take between seven and 10 years to build a portfolio of stocks that pay dividends on a regular basis. A mix of stocks from across sectors and geographic locations can provide you with a regular income even when the market is down. Many dividend paying companies don’t cut payouts even during recessions — and some (dividend aristocrats) even raise dividends consistently no matter the economy.

You do need patience and persistence to build a dividend portfolio for income purposes. However, if you are careful you can create an income stream that can benefit you now and in retirement, no matter the economic climate. There is, of course, always the risk that dividends will be cut, but choosing carefully can help you reduce your exposure to dividend cuts.

Reinvesting Your Dividends to Grow Your Portfolio

Perhaps you aren’t interested in creating an income stream with your dividend stocks. Dividend investing can still help you improve your performance. Many dividend stocks offer plans for reinvesting your dividends. Instead of sending you the money when dividend are paid, the cash is used to purchase more shares.

Dividend reinvestment is basically like getting shares for free. In our example above, that $30 a quarter can get you an extra share if the stock price is $30. That’s a free share added to your holdings. Over time, if the company’s stock appreciates in value, you end up with more in the long run because you have more shares that you can sell later at the increased price — but you receive those extra shares essentially for free.

The risk, of course, is that the stock market tanks just before you want to sell your shares. During times that you are building your portfolio, a stock market crash isn’t such a bad thing, since your dividend reinvestment will afford you more shares, buying you more with less.

Looking for Dividend Stocks

There are a number of places to look for dividend stocks. One of the best places to start, though, is with the dividend aristocrats. These are stocks that have raised dividends at least once a year for the last 25 years. That means that, even during a recession, these dividend stocks raised dividends. Some of the dividend aristocrats have been raising dividends each year for more than 30 or 40 years! Of course, many of these stocks have fairly low payouts. However, they are payouts that can usually be counted on.

You can also look at dividend stock index listings to find more information. Some dividend stocks have high yields, and can contribute to quick portfolio growth, or provide a shot to your income, but these are often volatile as well, and the dividend could be cut at any time. Most brokers, including online discount brokers, can provide you with access to dividend paying shares. Additionally, many companies offer direct purchase plans so that you can purchase shares directly from the company.

As you decide on a dividend stock, it’s important to understand your investing goals, and know what you expect from your portfolio. Be clear about your strategy and your goals, and look for dividend stocks that will help you reach those goals. For most people, though, fundamentally sound stocks that have the potential for modest (but steady) future growth are good choices.

Bottom Line

Like all investments, dividend stocks come with risks. However, if you are careful about which dividend stocks you choose, and you cultivate a plan that works with your financial goals, you can boost your investment portfolio and build more wealth.