In the past, I used to think that dividend investing is good. It’s stable, pays passive income, resistant to downside and has the power of compounding. But I realized that dividend investing is not as good as I originally thought. In this video, I explain why, and what you should do instead.
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0:00 – Intro
0:36 – Dividends are bad for companies
When a company pays dividends, they no longer have that money to use, and they are now in a slightly worse off position. The main reason they pay dividends is because the management cannot find better ways to use the money. This happens in large mature companies with stable earnings, like DBS, Singtel and so on. They are at a stage where they can’t continue a high level growth, so they distribute the earnings to shareholders.
Meanwhile, fast growing companies do not pay dividends, because they are able to use the money to grow the company, which in turn will increase the share price faster.
We can see this effect by comparing VOOG growth ETF vs VYM dividend ETF, where VOOG gave double the returns.
2:17 – Dividends are bad for us
When a company pays dividends, the stock price will drop by the same amount on ex dividend date. Effectively, there’s no difference whether you receive dividends or not, because you will have the same amount, just that part of it is now in the form of dividend cash.
The main reason we invest is to grow our money to use during retirement. But now the money has been returned back to us in the form of dividends. If we decide to use the money, we will have lesser money invested. If we decide to reinvest it back into Singapore stocks, the dividends are too little to buy 100 Singapore stocks. Or if we received the dividends from US stock, we would be taxed 30% withholding tax. By receiving dividends, we will often end up with lesser money invested in the end.
4:48 – Unnecessary stability
Studies have shown that dividend stocks drop lesser during a market crash, and that’s why people invest in dividend stocks.
We do not actually need the stability because we are not going to sell the stock now anyway. If you can’t handle the volatility, dividend investing is good for you. But if we can handle the volatility, we can just avoid dividend investing and invest in growth stocks.
6:05 – Same risk as growth stocks
People feel that dividend paying companies have lower risk. But dividend stocks come with its own risk, like dividend traps, where it tricks you into thinking that it can give good passive income. When times are bad, all stocks will be affected. So, if you are taking the risk to grow your money, why not just invest in a growth stock to grow your money quicker, but with the same amount of risk? Risk doesn’t come from volatility or not diversifying, but instead risk comes from not knowing what you are doing. If you have done all the research, your risk will be minimum.
7:47 – What should you do now?
When we are young and in the accumulation phase, we do not need to depend on our investments for income. In that case, we can invest in growth stocks to grow our money quickly. Then as you become older, we enter the distribution phase. We can then convert to dividend stocks for stable passive income.
9:30 – Wheel strategy for income
If you need to have income now, dividend stocks is still a bad choice due to low returns. You can consider the wheel strategy, which involves selling options for income.
By using this strategy, you get to grow your money consistently in any market conditions. I explain the strategy in this video.