Interest vs dividends

TheSpaceMan

Greetings, can someone explain to me the difference between these two? Interest is simple enough, deposit money, earn interest on that money and now you have more than when you started. Although with dividends I don't think it's quite as simple.

Say you invest in a company that has a dividend payout of 4% per year. and you invest £20,000 in that company. The price of the stock will change over time and let's assume the stocks rise 5% for that year. Now your £20,000 is worth £21,000 if you sell it so where do the dividends come in? Is the 4% dividend payout based on the companies earnings so they payout 4% of their profits divided by everyone who owns shares? How is it calculated?

I played around with a compound interest calculator which showed if I invested a certain amount over a certain time I would get a certain return, as in my investment would now be worth that much, but that's not interest right? That's simply the stock going up, so again where do the dividends come in and does compound interest work for investments?

Very confused. Thanks for any help.

colsten

It's basically a case of apples and pears.

Interest is something you get paid for cash savings, whether held in savings or current accounts. You do not hold any ownership in the provider by holding an interest-earning account with them.

Dividends is something you might receive for investments. Investments are typically one or more shares in one or more businesses, or shares in an index, or an index tracker fund, or some other fund.

The value of your share(s) may go up or down, based on market perception of the value of the company. Independently, the company/companies may or may not pay any dividends to share holders.

Discussion of dividends: http://www.investorguide.com/article/11627/what-are-dividends-and-why-do-companies-offer-them-igu/

There are some outfits that promise you a combination of share ownership and interest. Most of these are either unregulated and/or are trying to pull the wool over your eyes. These kind of companies are best avoided, especially if you are uncertain about interest and dividends.

colsten

TheSpaceMan wrote: »

I played around with a compound interest calculator which showed if I invested a certain amount over a certain time I would get a certain return, as in my investment would now be worth that much, but that's not interest right? That's simply the stock going up, so again where do the dividends come in and does compound interest work for investments?

Compounding calculators calculate the effect of adding a sum of money to an existing sum, and grow it by a given %age. They are relevant whenever the return on a sum of money is re-invested/re-saved, so it can earn further money, and for as long as the savings account keeps paying interest. You can earn interest on interest.

Typically, you would use a compound interest calculator for multi-year savings, where the interest is added to the balance and so can earn further interest for as long as the money stays in the savings account.

You can also compound investments, if you re-invest the dividends and/or if the value of the shares increases year-on-year. Your typical compound interest calculators won't be a lot of use for these situations.

Eco_Miser

TheSpaceMan wrote: »

Say you invest in a company that has a dividend payout of 4% per year.

The company has paid 4% in the past. There is no guarantee, or even promise, that future payouts will be the same.

TheSpaceMan wrote: »

and you invest £20,000 in that company. The price of the stock will change over time and let's assume the stocks rise 5% for that year. Now your £20,000 is worth £21,000 if you sell it so where do the dividends come in? Is the 4% dividend payout based on the companies earnings so they payout 4% of their profits divided by everyone who owns shares? How is it calculated?

The company makes money, the board decides to pay some of it to the owners (shareholders). Dividing the whole amount by the number of shares give the dividend per share, dividing this by the share price, and multiplying by 100, gives the percentage dividend yield.

bsod

Greetings,

Interest vs dividends in google gives 18 million results, many of which look like spam, especially the ones that play around with compound interest calculators

https://www.google.co.uk/webhp?complete=0#complete=0&q=%22with+a+compound+interest+calculator%22&btnK=Google+Search

themanfromamarillo

As mentioned before dividends are based on how much money a company makes in a particular year and how much of that the directors choose to pay out. Sometimes companies don't pay out that much of their profits and reinvest it in their business so they grow more. Othertimes companies pay out almost all their profits to keep shareholders happy even when they can only barely afford to.

Also dividends can vary a lot. If a company sells some big asset to another company it can pay this cash out as a dividend. That will only be a one year thing but if you look on a share listing site it might report a whopping huge dividend percentage that will never be repeated. So check the history of the companies dividends.

Finally as mentioned before, there's no guarantee a company will keep paying out dividends and the share values could fall as well as rise. Buying individual companies can be risky and there are other ways like funds which spread the risk. Putting money in a bank account is less risky (if you stay below £75k) but you may get a lower rate of return.

Radiantsoul

Companies have to pay interest, they choose to pay dividends.

Baring the risk of the company going bust you know what you are going to get with interest. If the company does go bust the debt holders are repaid before the shareholders(assuming there is anything to repay)

If you buy shares you get dividends, and the price of the shares varies over time(generally by even more than the dividend). This means it is more of a rollercoaster ride, and in theory you ought to get a higher return to cover that risk.

Archi_Bald

Radiantsoul wrote: »

Companies have to pay interest

which companies have to pay interest?

JohnRo

Radiantsoul wrote: »

If you buy shares you get dividends...

Not an accurate assessment.

TheSpaceMan

I still don't think I understand. So with a fund or investing directing into a company, you don't get any interest whatsoever, instead you get dividends which could range from 0% to 50% or more depending on that particular companies dividends for that year right?

So even if your fund loses 3% you could still make money because the dividends payout? And on the flip side your fund might go up 10% for 1 year but those companies don't pay that much dividends that year?

Just give me some example figures, I know it obviously varies but just to get an idea.

Archi_Bald

Your understanding is principally correct. Though you are unlikely to ever get a 50% dividend.

If you want dividend figures, there are plenty on the Internet and in the Financial Times.

BTW, both interest and dividends are generally taxable.