Dividend reinvestment plans or DRPs/DRIPs are offered by many companies to give shareholders the option of reinvesting the amount of a declared dividend by purchasing additional shares. Normally, when dividends are paid, they are received by shareholders as a check or a direct deposit into their bank account. Because shares purchased through a DRIP typically come from the company’s own reserve, they are not marketable through stock exchanges. Shares must be redeemed directly through the company.
There are several advantages of purchasing shares through a DRIP. DRIPs offer shareholders a way to accumulate more shares without having to pay a commission. Many companies offer shares at a discount off the current share price through their DRIP. Between no commissions and a price discount, the cost basis for owning the shares can be significantly lower than if the shares were purchased on the open market.
Long term, the biggest advantage is the effect of automatic reinvestment on the compounding of returns. When dividends are increased, shareholders receive an increasing amount on each share they own, which can also purchase a larger number of shares. Over time, this increases the total-return potential of the investment. Because more shares can be purchased whenever the stock price decreases, the long-term potential for bigger gains is increased.
Dividend-paying companies also benefit from DRIPs in a couple of ways. First, when shares are purchased from the company for a DRIP, it creates more capital for the company to use. Second, shareholders who participate in a DRIP are less likely to sell their shares when the stock market declines. One reason is the shares are not as liquid as shares purchased on the open market. Another reason is DRIP participants can more easily recognize the role their dividends play in the long-term growth of their investment.
AAII Weekly Survey Question
To see how popular dividend reinvestment plans (DRIPs) are with our readers, last week’s survey question asked:
Have you ever participated in a stock dividend reinvestment plan?
Here are the results of the survey:
In all, 1,585 readers participated.
By an overwhelming margin, 72% of readers say they have participated in a DRIP, while 28% say they have not.
Weekly Special Question
Having asked whether our readers have ever participated in a dividend reinvestment plan, we were curious to know what motivates investors to use them. So last week’s special question asked:
What is your primary reason for participating in a dividend reinvestment plan (DRIP)?
In all, we received 431 responses.
Nearly one-quarter of respondents say they use DRIPs as an easy way to add their share totals.
Roughly 16% of readers say they participate in DRIPs because of the compound growth they offer investors.
Slightly more than 14% of responses indicate that the lack of commissions is why our readers participate in dividend reinvestment plans.
Another 11% say they participate in DRIPs because they are an easy way to buy stocks.
And rounding out the top five responses, nearly 11% say they participate in DRIPs as part of their income investing strategy.
Here is a sampling of the responses from our readers as to the most important financial decision they have made to lessen the potential of their biggest retirement concern coming to pass:
- “For me, as someone who currently doesn’t need the cash, DRIPs are the best use of dividends. And over the long haul, this will buy more shares when the price is low.”
- “DRIPs are a good way to start and shelter you from all the hype—in essence a set and forget it approach.”
- “DRIPs are a cheap way of adding to the stock over a period of time.”
- “Back when commissions were high, a DRIP was a cheap way to acquire stock, especially since I owned it already.”
- “Dollar cost averaging and compounding over the long term.”
- “It is a disciplined way to increase the number of shares and dividends. Buying more when prices are low and less when they are high, over time, has yielded very good total returns.”
- “To compound the growth by reinvesting dividends and/or capital gains.”
Everybody has an opinion! Why not give us yours? Participate in our weekly member poll, updated every Monday, and see the results online at www.aaii.com/memberquestion.