If you have investments that pay dividends throughout the year then you may have already thought about what you are going to spend this money on. However, a strategy that a growing number of investors are using is to reinvest these dividends to buy more shares in the company they have invested in. This is generally considered a wise decision as there are a number of benefits that reinvesting dividends can bring. Some of the main reasons why people choose to reinvest are listed in more detail below.
It Makes Your Initial Investment Much More Profitable
In the long term, reinvesting dividends can make a small investment into something that can provide you with a life changing amount of money. This is because all of the reinvestments you make will be compounded. When you reinvest the first year you will then earn more dividends in the second year and even more in the third year. The longer you can leave the initial investment untouched for, the more potential there is for your money to grow. Reinvesting means that the same shares that you originally bought perform much better than if you were to just take the money each year.
You Can Avoid Transaction Fees
You may not have to pay any transaction fees when you choose to reinvest your dividend payments. This can make it one of the cheapest ways to buy shares as virtually all other methods will have a fee attached. This means that reinvested dividends are working even harder to earn you money. You should double check with your broker whether there are any fees that they charge as this will need to be taken into account when you are calculating the return from your investment.
It Can Be Done Automatically
Even with the best intentions of reinvesting your dividends, when the cash is in your hand it is very easy to find another use for it. You can set up your investment account so that all reinvestments are done automatically which is one less thing for you to worry about. Reinvesting also removes the uncertainty that you may feel about the current market conditions which could lead to moving away from your chosen investment strategy. When you choose automatic reinvestment then you will be able to stick to your long term strategy more easily.
It Offers More Flexibility
Many companies will only allow you to buy stocks in whole units and this can be difficult if the price is particularly high. This is not the case when you are reinvesting dividends and if a share price has risen dramatically recently then you do not have to worry about being priced out of the market. When you reinvest partial shares enough times then these will eventually become a full share and will start to provide dividends of their own. If the shares continue to grow in price then the dividends you receive have the potential to be very healthy.
It Is A Disciplined Approach
Many seasoned investors will tell you that the best time to buy more stocks is when the price is low as you can get more for your money and over time the value of these stocks should increase. This is the type of discipline that the most successful investors stick to. Reinvesting your dividends will mean that this is the action that you are always taking because when the share price is low the amount that you reinvest will buy you more shares. In time when the market recovers then you will have more shares that are earning you even higher dividends.
Of course, there will come a time when you decide that you now need the money that you have been investing for all these years. This will usually be when you have retired and plan to use your investment money as your main income. If you have a date in mind for your retirement then you will need to begin to plan when you are going to stop reinvesting so that this money is available. If you do stop reinvesting dividends then you can still use other investment vehicles that are easier to access. This is something that your broker would be able to help you with.
Written by Garrett Parker
Read more posts by Garrett Parker