Dividend reinvestment plans, or DRIP, is an investment opportunity that a company offers to the shareholders. Instead of receiving directly the money, the dividend cash is deposited in a brokerage account, in the dividend payment day, and used automatically to buy new shares to the same company. This financial product is designed for investors who are interested in safe, long-term investments. Through dividend reinvestment plans, most companies allow to the stockholders to buy new shares without paying a commission and they also offer serious discounts to the current market price.
Are Dividend Reinvestment Plans Suitable For You?
DRIP have multiple advantages: they offer you the opportunity to increase your capital by buying stocks at preferential prices. This will help you, in time, to reach a level of financial independence. Dividend reinvestment plans are suitable for people who are interested in long-term investments. For example, if you used your retirement money to buy shares to a dividend paying company, then it’s a very good idea to use their DRIP facilities to re-invest your profits. This way, you’ll enjoy a stable, generous income after you retire.
But, if you’re aiming for quick returns, you can use your dividend cash to buy emergent stocks. Investing in small companies and emergent stocks is a pretty risky strategy, but one that could potentially bring you high profits over a short period of time. Balancing safe, long-term investment tools, like dividend reinvestment plans, and short-term ones, with high profits potential, is a smart strategy.
Advantages Of Dividend Reinvestment Plans
As stated before, one of the most important advantages or DRIPs’ is the fact that, if the company operates the plans, you don’t have to pay a commission to the stockbroker. But, if a brokerage firm operates Dividend Reinvestment Plans, you do have to pay commissions for the transactions. Some of the companies do offer new stocks to the shareholders at discount prices, sometimes even 10 percent lower then the current market prices. This type of investment allows you to purchase shares in a very flexible manner. You can buy shares even with very small amounts of cash, which is not possible on the stock market. Some of the DRIP permit to the customers to spend as low as $10 on stocks. On average, companies that have dividend reinvestment plans limit this type of investment to $500 000.
Disadvantages of Dividend Reinvestment Plans
Investments gurus always tell us to diversify the portfolio. With DRIP, this is not happening. You are buying stocks to the same company – well, it’s like putting all your eggs in the same basket. This is why, when making use of Dividend Reinvestment Plans, you should select only well established, reliable companies. Another thing you can do to avoid the danger of concentrating all your money in the same company is to place the initial investments in at least four or five major companies, from different branches of the industry. That way, even if you choose to use your dividend cash on DRIP, you can still benefit from the advantages of a fairly diversified investments portfolio. Another downside when using DRIP managed by the company is that you can’t sell those shares directly on the secondary market. The shares that companies sell through DRIP come from their share reserve. If you decide, at a certain point, that you want to sell those shares, you can’t do it directly on the stock market. You have to sell them back to the company, at the current market price. However, if at the moment when you bought the shares DRIP was operated by a brokerage firm, you don’t have this problem. You can simply sell your stock through secondary market.
Different Types of Dividend Investment Plans
More and more companies offer, to their shareholders, dividend investments plans. Some of the companies manage the program themselves, through a specialized department. They even offer you the possibility to buy the initial stock, necessary to start the DRIP, directly from the company. In other cases, dividend investment plans are externalized and managed by third parties that act in the behalf of the company. Even if a certain company, one that you are interested in, doesn’t have a DRIP, you can still reinvest your dividend cash in that manner. There are brokerage firms that offer you the possibility to reinvest the cash at no costs, the same way that DRIP do. However, brokerage firm offer this possibility only to customers who have an account also used for commissioned trades.