The pros and cons of dividend-reinvestment plans in a no-commission world
Some financial pros say DRIPs have lost their luster.
Many investors, however, still like the circular experience
of dividend reinvesting.
In the brave new world of commission-free online stock trading, many investment professionals say company-sponsored dividend-reinvestment plans, or DRIPs, have outlived their usefulness.
Yet these plans—which enable individual investors to buy stock, even fractional shares, directly from an issuer and have the dividends automatically reinvested to
buy more of the same stock commission-free and sometimes at a small discount—remain surprisingly popular.
More than 1,000 companies now offer some kind of DRIP/direct-purchase plan,
double the amount of a decade or so
ago, according to DRIP Investor, an
industry newsletter.
Roughly 500 are traditional DRIP and direct-purchase plans, while about 300 are online-only plans, where, often for a fee, investors can buy through transfer agents such as Computershare, as well as in an individual retirement account. About 250 are direct-purchase plans tied to foreign stocks known as American depositary receipts, according to the DRIP newsletter.
So, what is behind the appeal of DRIPs when online-trading commissions have all but vanished and many brokers now allow free dividend reinvestments?
Cassandra Toroian, founder
of Bell Rock Capital in
Rehoboth Beach, Del.,
says millions of investors
who have participated
in DRIP programs over
the years not only are
used to the process, they have had
positive results.
“For many long-term, buy-and-hold investors who plan to hold a stock for decades, a DRIP may still make sense since it keeps the investor disciplined,” Ms. Toroian says. What’s more, she says, companies that offer DRIPs are sending a message to their shareholders: “They are all about cash management, long-term steady growth, and want long-term shareholders versus day traders, for example, who can introduce tremendous volatility into a stock.”
Still, DRIPs today have many detractors, including Laurie Itkin, an adviser with Coastwise Capital Group in La Jolla, Calif.
DRIP devotees counter that fractional share purchases for individual stocks, which have always been a compelling feature of DRIP investing, are still uncommon at the major discount brokers. Moreover, DRIPs also often have no account minimums and there is minimal paperwork required to set up a plan and start investing. Thus, for many people DRIPs are less intimidating than using a broker, online or in person, they says.
Further, in a small number of plans, an investor can still buy a stock at a discount, usually 3% to 5%. These discounts apply mostly to reinvested dividends but, in rare cases, can apply to optional additional investments, as well.
“You can’t buy stock 95 cents on the dollar at Schwab,” Mr. Carlson says.
Charles Carlson, who publishes
the DRIP newsletter, says the
growth in dividend-reinvestment plans has come as those new
to investing seek low-cost
ways to invest small amounts
of money, and some companies
make their programs cheaper and
easier to access. There also may
be a large behavioral component
to the popularity of DRIPs, he
and others say.
“There is still a large number of investors who don’t want to trade online for myriad reasons: [They] don’t trust online activity,” don’t want to bother with a computer, etc., Mr. Carlson says. He also notes that the new world of no-commission investing isn’t universal; for example, calling in trades to a broker will still result in a fee, he says.
Better ways to invest?
She echoes the feeling of many investment pros when she says, “There is no compelling reason to engage in dividend reinvestment in the new age of zero-commission trading.”
These advisers say there are other downsides associated with DRIPs, including the bookkeeping hassles and tax headaches that go along with using dividends to make many small purchases of stock over long periods, as well as potential fees that some companies charge to set up and exit their programs. Other pros simply believe there have always been better ways to invest.
“My argument against DRIPs is that investors may want to use the money from dividends to rebalance and diversify their portfolio and avoid unnecessary concentration in the same stock,” says Stoyan Panayotov, senior adviser and founder of Babylon Wealth Management in San Francisco and Walnut Creek, Calif.
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