As much as some people wish it were so, a share of stock does not get enthralled with gratitude on the day that you deigned to buy it and then accelerate towards the sky in value as a show of appreciation.
Of course, we all know that building any collection of assets will, by definition, include an investment that is the worst performer. If you own 35 stocks, it is axiomatic to note that one of your holdings will be ranked 35th out of 35 in terms of overall performance.
My preference is that, given all stocks carry the possibility of fluctuating from x to 0.8x or even 0.6x, I would like to get paid in exchange for absorbing that volatility during my holding period. This is where dividends can really accelerate the future of your returns, permitting you to enjoy what John Neff called “hors d’oeuvres while waiting for the main meal to arrive.” For those of you that hold investments in Gilead Sciences, IBM, BP, Diageo, or GlaxoSmithKline, it is good to keep in mind the role that dividends play in creating a reward for your patience.
At the end of 2012, many Wells Fargo shareholders seemed to lament that the stock seemed to be perpetually trading near its book value of $30 per share. You can get a glimpse of this type of response by reading the comments to my articles: What Warren Buffett Thinks About Wells Fargo’s Dividend, Why Wells Fargo Is Warren Buffett’s Largest Bank Investment, and Warren Buffett Is Right About Wells Fargo’s Dividend.
The reality is that, although Wells Fargo’s stock price was stagnating, earnings were improving and cash dividends were getting reinvested at prices that were lower than the shareholders would have liked.
From that time onward, Wells Fargo paid out $5.50 per share in dividends. That figure increases to $6.59 if you reinvested along the way and had the benefit of the higher share count. While collecting those dividends, you got to reinvest at an average price of $40.23. This means that every reinvestor in Wells Fargo dividends got to pick up 16.3 new shares of Wells Fargo during the 2013-2016 time stretch for every 100 shares that they owned at the start of this examination period.
This year alone, Wells Fargo climbed from $43 per share to $55 per share.
Not only did those 100 shares bought at $30 get to enjoy the ride upward to $5500, but you also got 16.3 new shares that saw their value climb from an average of $40.23 to the $55 range as well.
The pure cash payouts of $5.50 would have added $550 to the 100 shares at $5500 for a final value of $6,050. But enduring those low prices and reinvesting left you with a final value of 116.3 shares trading at $55 for a current value of $6,396. You got to collect an extra 5.71% in cumulative value for absorbing volatility and a lower than usual share price. And that is just over the course of three years.
It is also a reminder of why the total return reality that you see in your accounts (particularly if they are tax advantaged) is better than what you’d see just by taking a peak at a stock’s price history. During its four-year push from $30 to $55, Wells Fargo delivered capital appreciation of 16.3% annually. When you include the full effect of reinvested dividends, the annual compounding rate shoots up to 20.8%.
You got to pick up an extra 4.5% annualized when you include dividend reinvestment. During this time, Wells Fargo stock offered a starting yield in the 3.1% to 3.5% range. This means that dealing with the lower-priced Wells Fargo shares from 2013 through a good chunk of 2016 enhanced your annual returns by a full percent. I would imagine that the expected math for a stock like BP will be even greater because its cash payouts are higher and its discount from fair value is greater. If a business is profitable, and is going to be earning more profits five years from now, a languishing stock price is a friend that will tack on a point to your total returns.
Originally posted 2016-12-21 15:00:18.