ꦫDividends can affect the price of their underlying stock in a variety of ways. The dividend history of a given stock plays a general role in its popularity but the declaration and payment of dividends can also have a specific and predictable effect on market prices. The share price of a stock usually🍷 drops by the amount of the dividend after the ex-dividend date.

How Dividends Work

Dividends serv𝓰e as a popular source of investment income. They're a way for the issuing company to redistribute profits to shareholders as a means🔴 of thanking them for their support and encouraging additional investment.

Dividends also serve as an announcement of the company's success. They're issued from a company's 澳洲幸运5官方开奖结果体彩网:retained earnings so only companies that are substantially profitable issue dividends with any consistency.

Dividends are often paid in cash b♍ut they can also be issued in the form of additional shares of stock. The amount each investor receives is dependent on their current ownership stakes in either case.

An investor with 100 shares receives $50 and the company pays out a total of $500,000 if a company has one million shares outstanding and it declares a 50-cent dividend. The same investor receives 10 additional shares and the company doles out 100,000 new shares in total if it instead issues a 10% 澳洲幸运5官方开奖结果体彩网:stock dividend.

The Effect of Dividend Psychology

Dividends aren't guaranteed on common stock but many companies pride themselves on generously rewarding shareholders with consistent and sometimes increasing dividends each year. Companies that do this are perceived as financially stable and financially stable companies make good investments, especially among buy-and-hold investors who are most likely to benefit from dividend payments.

Companies become more attractive t༺o investors when they display consistent dividend histories, The sto🍎ck price naturally increases as more investors buy in to take advantage of this benefit of stock ownership. This reinforces the belief that the stock is strong. Public sentiment tends to sour if a company announces a higher-than-normal dividend.

The truth could be that the company's profits are being used for other purposes such as funding expansion but the market's perception of the situation is always more powerful than the truth. Many companies work hard to pay consistent dividends to avoid spooking investors who may see a skipped dividend as darkly foreboding.

The Effect of💛 D♏ividend Declaration on Stock Price

The issuing company must first declare the dividend amount and the date when it will be paid before a dividend is distributed. The last date when shares can be purchased to receive the dividend is the day before the ex-dividend date. This date is set based on stock exchange rules and generally falls one business day before the date of record which is the date when the company reviews the list of shareholders on its books.

The declaration of a dividend naturally encourages investors to purchase stock. Investors know that they'll receive a dividend if they purchase the stock before the ex-dividend date so they're willing to pay a premium. This causes the price of a stock to increase in the days leading up to the ex-dividend date. The increase is generally about equal to the amount of the dividend but the actual 澳洲幸运5官方开奖结果体彩网:price change is based on 🐭market🌌 activity and not determined by any governing entity.

The price increase this creates may be larger than the actual dividend amount if the market is particularly optimistic about the stock leading up to the ex-dividend date. This can result in a net increase despite the automatic reduction. The reduction may even go unnoticed due to the back-and-forth of normal trading if the dividend is smal🌃l.

Many people invest in certain stocks at certain times solely to collect dividend payments. Some investors purchase shares just before the ex-dividend date and then sell them again right after the date of record, a tactic that can result in a tidy prof🔜it if it's done correctly.

Stock Dividends

Stock dividends don't result in any actual increase in value for investors at the time of issuance but they affect stock prices similar to that of 澳洲幸运5官方开奖结果体彩网:cash dividends. The stock's price often increases after the declaration of a stock dividend but it dilutes the 澳洲幸运5官方开奖结果体彩网:book value per common share and the stock price is reduced accordingly. A stock dividend increases the number of 澳洲幸运5官方开奖结果体彩网:shares outstanding while the value of the company remains stable.

Smaller stock dividends can easily go unnoticed just as ca𝔉sh dividends can. A 2% stock dividend paid on shares trading at $200 only drops the price to $196.10, a reduction that could easily be the result of normal trading. 🌸A 35% stock dividend drops the price down to $148.15 per share, however, which is pretty hard to miss.

Dividend Yield/Payout Ratio

The 澳洲幸运5官方开奖结果体彩网:dividend yield and 澳洲幸运5官方开奖结果体彩网:dividend payout ratio (DPR) are two valuation ratios used by investors and analysts to evaluate companies as investments for dividend income. The dividend yield shows the annual return per share owned that an investor 澳洲🧜幸运5官方开奖结果体彩网:realizes from cash dividend payments or the dividend investment return per dollar invested. It's expressed as a percentage and calcu☂lated like this:

$\begin{aligned}&\text{Dividend yield}=\frac{\text{annual dividends per share}}{\text{price per share}}\end{aligned}$​Dividend yield=price per shareannual dividends per share​​

The dividend yield provides a good basic measure for an investor to use in co🌸mparing the dividend income from their current holdings to potential dividend income available through investing i𒐪n other equities or mutual funds.

It's important to note that increases in share price reduce the dividend yield ratio even though the overall investment return from owning the stock may have improved substantially. A drop in sha♏re price shows a higher dividend yield but it may indicate that the company is experiencing problems and lead to a lower total investment return.

The dividend payout ratio is considered more useful for evaluating a company's financial condition and the prospects for maintaining or improving its dividend payouts in the future. It reveals the percentage of 澳洲幸运5官方开奖结果体彩网:net income that a company is paying out in the form of dividends. It's calculated like this:

$\begin{aligned}&\text{DPR}=\frac{\text{Total dividends}}{\text{Net income}}\\&\textbf{where:}\\&\text{DPR}=\text{Dividend payout ratio}\end{aligned}$​DPR=Net incomeTotal dividends​where:DPR=Dividend payout ratio​

It may indicate less likelihood that a company will be able to sustain such dividend payouts in the future if the dividend payout is excessively high because the company is using a smaller percentage of earnings to rein🍰vest in company growth.

A stable dividend payout ratio is therefore commonly preferred over an unusually big one. A good way to determine if a company's payout ratio is reasonable is to compare the ratio to that of similar companies in the same industry.

Dividends Per Share

澳洲幸运5官方开奖结果体彩网:Dividends per share (DPS) measures the total amount of profits a company pays out to its shareholders on a per-share basis generally over a year. DPS is an important 澳洲幸运5官方开奖结果体彩网:metric of a comp🍒any's profitability. It can be calculated by subtracting the 澳洲幸运5官方开奖结果体彩网:special dividends from 🐲the sum of all dividends over one year and dividing this figure by the outstan꧒ding shares.

$\begin{aligned} &\text{DPS} = \frac { \text{D} - \text{SD} }{ \text{S} } \\ &\textbf{where:} \\ &\text{D} = \text{sum of dividends over a period (usually} \\ &\text{a quarter or year)} \\ &\text{SD} = \text{special, one-time dividends in the period} \\ &\text{S} = \text{ordinary shares outstanding for the period} \\ \end{aligned}$​DPS=SD−SD​where:D=sum of dividend💃s over a period (usuallya quarter or year)SD=special, one-🌞time dividends in the pe♏riodS=ordinary shares outstanding 𓃲;for the period​

Some Examples

Let's say Compa🌊ny HIJ has five million outstanding shares and it paid dividends of $2.5 million last year. No special dividends were paid. The DPS for Company HIJ is 50 cents 🎐($2,500,000 ÷ 5,000,000) per share. A company can decrease, increase, or eliminate all dividend payments at any time.

A company may cut or eliminate dividends when the economy is experiencing a downturn. Suppose a dividend-paying company isn't earning enough. It may look to decrease or eliminate dividends because of the fall in sales and revenues. Company HIJ may look to cut a portion of its dividends to reduce costs the next year if it experiences a fall in profits due to a 澳洲幸运5官方开奖结果体彩网:recession.

Another example would be if a company is paying too much in dividends. A company can gauge whether it's paying too much of its earnings to shareholders by using the 澳洲幸运5官方开奖结果体彩网:payout ratio. Suppose Company HIJ has a DPS of 50 cents per share and its 澳洲幸运5官方开奖结果体彩网:earnings per share (EPS) is 45 cen🔜ts per share. The payout r🔴atio is 1.11% = (50/45).

This figure shows that HIJ is paying out more to its shareh📖olders than the amount it's earnꦐing. The company will look to cut or eliminate dividends because it shouldn't be doing this.

The Dividend Discount Model

The 澳洲幸运5官方开奖结果体彩网:dividend discount model (DDM), also known as the 澳洲幸运5官方开奖结果体彩网:Gordon growth model (GGM), assumes that a stock is worth the summed 澳洲幸运5官方开奖结果体彩网:present value of all future dividend payments.

This is a popular valuation method used by fundamental investors and 澳洲幸运5官方开奖结果体彩网:value investors. A company invests its assets to derive future returns, reinvests the necessary porti𓆉on of those future returns to maintain and grow the firm, and transfers the balance of those returns to shareholders in the form of dividends.

The value of a stock is calculated as a ratio with the next annual dividend in the numerator and the 澳洲幸运5官方开奖结果体彩网:discount rate less the dividend growth rate in the denominator. The company must pay a dividend to use this model and that dividend must grow at a regular rate over the 澳洲幸运5官方开奖结果体彩网:long term. The discount rate must also be higher than the dividend growth rate for the model to be valid.

The DDM is solely concerned with providing an analysis of the value of a stock based only on expected future income from dividends. Stocks ಌare only worth the income they generate in future dividend payouts according to the DDM.

This model is one of the most conservative metrics to value stocks. It represents a financial theory that requires a significant amount of assumptions regarding a company’s dividend payments, patterns of growth, and future interest rates. Advocates believe 🍃projected future cash dividends are the only depen🐼dable appraisal of a company’s intrinsic value.

The 🔜DDM requires three pieces of da🅺ta for its analysis:

• The current or most recent dividend amount paid out by the company
• The rate of growth of the dividend payments over the company's dividend history
• The 澳洲幸运5官方开奖结果体彩网:required rate of return the investor wishes to make or considers minimally acceptable

The current dividend payout can be found among a company's financial statements on the statement of cash flows. The rate of growth of dividend payments requires historical information about the company that can easily be found on any number of stock information websites. The 𒀰required rate of return is determined by an individual investor or analyst based on a chosen investment strategy.

The dividend discount model provides a solid approach for projecting future dividend income but it falls short as an equity valuation tool because it fails to include any allowance for 澳洲幸运5官方开奖结果体彩网:capital gains through 澳洲幸运5官方开奖结果体彩网:appreciation in stock price.

The Bottom Line

Dividends can be an attractive feature of a stock for investors, particularly if they're following a dividend investment strategy. Determine how the dividend impacts its price and if it falls in line with your investment goals before choosing a stock.

Correction—Nov. 30, 2023: This article has been corrected to state the last date when shares can be purchased to ꦚreceive a dividend.