Are dividends not a good approach when deciding on investing?

isayhello

I've been researching various funds and shares to understand investing better and came across a youtube video where the message was that dividends aren't a good investing approach, the general idea was that although you get the dividend paid out, the companys share price drops so you're not gaining anything unless you invest the money back in to buy more shares, in which case you didn't need the dividend.

After seeing lots of videos where people are promoting dividends as a passive income approach this seemed to contradict that, I can't find the video link, but below is a similar argument from a reddit thread I found, it kind of makes sense, so are dividend approaches pointless unless you need the regular income?

"A dividend is not free and adds nothing. It is simply a transfer from the equity into cash. On ex-div date the equity goes down by the dividend amount.

The recorded transactions: Dr: Equity Cr: Dividend Payable (liability)

Paydate: Dr: Dividend Payable Cr: Cash

So impact reduces cash and company equity, or value of the company. But on paydate you receive that cash value.

But the company continues business and growing so that impact is not noticeable. But it is a fact. It is strictly a transfer. ZERO impact yo wealth."

GeoffTF

They are pointless even if you need a regular income. The only things that matter are the total return (dividends + capital gains) that you make and the level of risk that you take. If you restrict yourself to higher yielding shares you reduce your diversification and increase your risk.

LHW99

There is one aspect to dividends, if you have eg DB pensions, so that the dividends your portfolio generates are sufficient additional income:

If you use dividends, and there is a significant, and longer lasting market drop, dividends will generally drop less. You retain the same number of units for when the recovery comes.

If you sell units to generate income, and there is a significant, and longer lasting market drop, then to maintain a similar level of income, you end up selling more units. You then have fewer units to recover.

Linton

In my view a purely dividend based portfolio is not a sensible strategy but they are useful as part of a portfolio if you need a steady income. They could also help if your objective is long term growth as diversification if you are over-invested in tech/growth

GeoffTF

LHW99 said:

There is one aspect to dividends, if you have eg DB pensions, so that the dividends your portfolio generates are sufficient additional income:

If you use dividends, and there is a significant, and longer lasting market drop, dividends will generally drop less. You retain the same number of units for when the recovery comes.

If you sell units to generate income, and there is a significant, and longer lasting market drop, then to maintain a similar level of income, you end up selling more units. You then have fewer units to recover.

Not really. It is a question of who decides the level of your income. The companies or yourself. You do not have to increase your income with inflation if the market falls, e.g.:

https://www.vanguardinvestor.co.uk/articles/latest-thoughts/retirement/four-steps-safeguard-retirement

isayhello

GeoffTF said:

They are pointless even if you need a regular income. The only things that matter are the total return (dividends + capital gains) that you make and the level of risk that you take. If you restrict yourself to higher yielding shares you reduce your diversification and increase your risk.

That's interesting, I'd always thought the view was the opposite partly from a lot of these FIRE youtubers where I'd seen the approach of having a large enough pot which provides you an income and I thought dividend returns was one of the ways they did that.

So in your view, dividend paying stocks or funds with high dividend yields aren't a good investment approach?

Hoenir

GeoffTF said:

They are pointless even if you need a regular income. The only things that matter are the total return (dividends + capital gains) that you make and the level of risk that you take. If you restrict yourself to higher yielding shares you reduce your diversification and increase your risk.

That's interesting, I'd always thought the view was the opposite partly from a lot of these FIRE youtubers where I'd seen the approach of having a large enough pot which provides you an income and I thought dividend returns was one of the ways they did that.

So in your view, dividend paying stocks or funds with high dividend yields aren't a good investment approach?

The question to ask is why is the market isn't buying the stock. The yield is high for a reason. Risk is priced. 

Linton

Hoenir said:

GeoffTF said:

They are pointless even if you need a regular income. The only things that matter are the total return (dividends + capital gains) that you make and the level of risk that you take. If you restrict yourself to higher yielding shares you reduce your diversification and increase your risk.

That's interesting, I'd always thought the view was the opposite partly from a lot of these FIRE youtubers where I'd seen the approach of having a large enough pot which provides you an income and I thought dividend returns was one of the ways they did that.

So in your view, dividend paying stocks or funds with high dividend yields aren't a good investment approach?

The question to ask is why is the market isn't buying the stock. The yield is high for a reason. Risk is priced. 

An easy question - high dividend stocks are priced against other income generators primarily bonds. Equity and infrastructure income provides higher returns but less certainty.  Like bonds the capital value is a lot more volatile than the income in £ terms. Corporate bonds are similar in that respect.

So if someone reliant on their investments such as a retiree has enough guaranteed income to meet very basic needs, higher rate dividends and interest can be attractive.  A useful benefit is that there is minimal need for ongoing management.  The cash automatically and continually turns up in one’s current account.

GeoffTF

isayhello said:

GeoffTF said:

They are pointless even if you need a regular income. The only things that matter are the total return (dividends + capital gains) that you make and the level of risk that you take. If you restrict yourself to higher yielding shares you reduce your diversification and increase your risk.

That's interesting, I'd always thought the view was the opposite partly from a lot of these FIRE youtubers where I'd seen the approach of having a large enough pot which provides you an income and I thought dividend returns was one of the ways they did that.

So in your view, dividend paying stocks or funds with high dividend yields aren't a good investment approach?

It is a good marketing approach, but not a good investment approach.

More_complicated_than_that

isayhello said:

 ZERO impact yo wealth."

My personal view is that dividend yield is not a way to judge things.  In relation to "ZERO" impact on your wealth, that's right if the dividends are tax-sheltered (e.g. SIPP or ISA) or otherwise not taxable (e.g. covered by personal allowance or dividend allowance). Otherwise, the tax on a dividend does reduce your wealth (compared to a deferral until sale with a capital gain and potentially lower capital gain tax rates). 

Linton

More_complicated_than_that said:

isayhello said:

 ZERO impact yo wealth."

My personal view is that dividend yield is not a way to judge things.  In relation to "ZERO" impact on your wealth, that's right if the dividends are tax-sheltered (e.g. SIPP or ISA) or otherwise not taxable (e.g. covered by personal allowance or dividend allowance). Otherwise, the tax on a dividend does reduce your wealth (compared to a deferral until sale with a capital gain and potentially lower capital gain tax rates). 

Why does one need to judge things?  It should be more about your objectives - it you want income go for income, if you want long term capital growth go for that.  Trying to make one strategy meet the other's objectives seems somewhat counter-intuitive.  But both are needed for good diversification, the only question is in what %s.