Dividend Reinvestment Plans

If you look at the rankings of the best performing mutual funds each year, the names always change. It's always different funds run by different managers following different approaches. Seems like these lists are more about who placed the right bets during the past year rather than what investing approach works best generally and over the long haul. Last summer I read a book by Jeremy Siegel called "Stocks for the Long Run." He showed, using a century of data, that the largest portion of stock investment returns comes from dividends (as opposed to stock price growth). If that is true (and the data shows it is) and compounding is the eighth wonder of the world (as Einstein said it is and simply multiplying 1 by 1.03 (an assumed 3 percent return) by 1.03 by 1.03 by 103, etc., demonstrates) then buying stocks that pay dividends, holding them and reinvesting the dividends into more shares (to compound the growth of those dividends) seems like as good approach to investing as any.

I've been doing this with money made from summer jobs and Christmas and birthday presents for two years. I don't own many shares. I am taking economics classes, but still know little about financing (and sadly my school doesn't have financing or investing classes) and don't fully comprehend the financial statements of operating public companies. But I've learned a few things by putting my real-life money into dividend stocks. I learned I care more about companies increasing their dividends than I do about stock price. In fact, with dividends paid every three months, and my plan to use that dividend to simply buy more of the stock, I am happy when the stock price is down a bit, as the newest dividend buys a little more of the stock. I just care that the company's business is healthy, that nothing bad has happened to the business, and that the company can continue to pay (and hopefully grow) its dividend. The most important thing I look at is what portion of the company's cash flow it uses to pay its dividends. Cash flow is not earnings. Earnings are an accounting metric reported by companies that can be manipulated in a thousand ways. Looking at cash flows is more like looking at the company's banks account at the start and end of a period and seeing how much money is in the account. The more the money in the account grew during the period the better. And the smaller the dividend is as a percentage of that cash flow the better. Companies that have stable or growing cash flows and pay a relatively small percentage of that cash flow in dividends have more cushion to weather bad times without cutting the dividend, and more ability to increase the dividend in the future.

I am not an expert or a financial advisor and don't ever plan to be one. Dividend investing appeals to the fisherman in me -- I like the planning and the patience; I like the relative quiet of it. Companies with great cash flows and easy to understand stories like Apple, Johnson and Johnson, NextEra Energy (a utility but also focused on green energy), seem like great bait to catch increasingly larger returns.