Beating Broke

Personal Finance from the Broke Perspective

4 Reasons Why Dividend Income is the Best Passive Income

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Passive income is the best income. I frequently argue this case to the readers of my personal finance blog. Passive income is money that comes my way based upon work that I’ve done in the past. It might come from an article or a blog post that I wrote years ago, or it might come from a dividend-paying stock that I bought a couple of months ago. It comes in whether I decide to work hard on a given day or I choose to sleep in and watch a football game. Most people think that more work is required for additional income, but passive income requires no additional effort on my part. This is why I think passive income is the best type of income to have and I want to build it up over time. When thinking of passive income and how to increase it, I’ve decided that dividend income is the best passive income. Here are four reasons why I’ve come to this conclusion.

1. Dividends Are A Solid Component Of Return On Capital

When many people think of investing in stocks, they don’t really have investing in mind. They tend to picture greedy men in suits running around on Wall Street or day traders sitting in their living room who try to make quick trades to cash in capital gains. This is trading in the best-case scenario and speculating at worst. People who are actual investors find a company that they like that has solid revenue and income streams. They generally intend to hold a stock for the long run. Warren Buffett, possibly the greatest investor ever, argues that his ideal holding period is forever. Investors understand that the stock of a company they choose might go up $2 one day and down $4 the next. In a recession, most stocks will get hit. This does not mean that the underlying fundamentals of a given company are necessarily bad. It could just mean that stocks are on sale.

Many companies that make a nice level of income over time decide to pay a portion of their profits back to investors in the form of a dividend. This is actual cash that can be used in any way a shareholder might decide, and depending upon the amount of the dividend and any growth in that dividend over time, an investor could actually see all of their original capital returned to them, and then some. This all happens while the investor continues to own a portion of the company. If the company has the growing revenue and income over time that is necessary to support a growing dividend, it’s also likely that the price of the stock will appreciate. This is a win-win situation for the shareholder.

2. Dividends Can Usually Be Reinvested Easily

There are basically two ways that an investor who decides to reinvest dividends can do so. The first option is to sign up for a dividend reinvestment program, otherwise known as a DRIP. A DRIP buys additional shares in the company that paid out the dividend. For example, a hypothetical company might have a share price of $100 and a quarterly dividend payment of $1. For every 100 shares that an investor holds, he or she would get one additional share the first quarter. An investor with 50 shares would receive one-half of a share. This process is usually available for those who buy shares directly from a company, but it is also available through many brokerages. Charles Schwab, Fidelity, and TradeKing are just three of the online discount brokerages that allow for DRIPs. All that the investor has to do to DRIP is inform the company or brokerage that they want to. There might be a request form, but it’s usually a pretty painless process.

The second option for those who want to reinvest their dividends is to collect dividends from all companies that they own and then make a purchase when the pool of dividend payments gets to a certain pre-determined level, be it $500, $5,000, or anything in between. They could also choose to jump on a great company at a great price if the opportunity arises before reaching the ideal amount of pooled dividends. This reinvestment can go toward a company that the investor already owns, or it can go toward diversifying into a new company. Regardless, it is a deployment of new capital that can bring more passive income over time. In the interest of full disclosure, I’ve used both of these methods for reinvestment at different times. I’m currently pooling my dividends, rather than allowing them to automatically reinvest into the company that paid them, but I am not fundamentally opposed to DRIPs.

3. Dividends From The Right Companies Can Grow Over Time

There are several publicly traded companies that have grown their dividends for 25 years or longer. Even better, there are a few that have a dividend growth record of at least 50 years. Both Johnson & Johnson and Coca-Cola have grown their dividends every year since the Kennedy administration. Getting a dividend increase each year is essentially getting a raise on your passive income that will oftentimes exceed the amount of any raises your regular employer will give you. When trying to find a solid dividend growth company, it’s a good idea to look at metrics like income growth, revenue growth, and dividend payout ratio (the percentage of profit that’s paid out to investors). Growing income and revenue are good signs. A relatively low dividend payout ratio is a good sign, as well. I’ve seen investors who want a ratio of below 50 percent. Others are comfortable with a payout ratio of 80 percent. Regardless, lower payout ratios are generally better.

4. The Combination Of Reinvestment And Dividend Growth Can Lead To A Compounding Stream Of Passive Income.

Putting dividend growth and reinvestment together can lead to a supercharging of your passive income stream. Reinvesting a dividend effectively increases your dividend payment by the current yield. For example, if the current yield is 4 percent, an investor who initially had 100 shares would have slightly more than 104 shares after a year (because of compounding), and the dividend payment for the next year would be more than 4 percent higher (and growing because of compounding). After two years, she would have more than 108 shares, and so on. This example assumes a stable dividend and share price. Dividend income would double in about 18 years in this scenario based upon the rule of 72.

When the dividend grows, however, the passive income stream would increase even more rapidly. With the example given above, the dividend yield and the rate of the dividend increase would get added together to calculate the overall increase in dividend income on a year-over-year basis. The 4 percent dividend yield, if combined with a 6 percent increase, would effectively lead to a more than 10 percent increase over the course of a year (keep in mind that compounding is in play every time a dividend gets reinvested). If this process could continue for about 10 years, based upon the rule of 72, our hypothetical investor would see his income grow from $100 to roughly $200. This all happens with no new investments outside of reinvested dividends, which is why I believe dividend income is the best passive income.

Caveats and Concerns

While I firmly believe that dividend income investing is a great way to build wealth over time, investors should perform due diligence when putting available capital toward equities. Dividend cuts definitely happen, and from time to time dividends are suspended altogether. Companies can also go belly up. These are all risks that come with investment although diversifying across companies that have solid financials and reasonable payout ratios can limit the possible risk and make it more likely that a dividend investor can succeed over the long term.

Disclosure

This article is intended for educational and informational purposes and is not intended as a recommendation to purchase any particular investment. Be sure to perform due diligence before putting money toward any investment.

How Small Investments Can Add up to Big Savings

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Saving money isn’t always easy but the long-term benefits make it a fundamental aspect of personal finance management. Over the years I have been writing about money, I have come across dozens of people who say something along the lines of, “I know I should be saving, but I can’t save enough to make it worthwhile.”

That statement makes me cringe! Thanks to the power of compound interest, saving even a few dollars here and there can lead to big savings. Here’s how it works and how you can get on track to better savings, even just a couple of dollars at a time.

A Few Dollars Can Add Up Fast

When you look at your bank account and your bills, it is easy to dismiss the power of a couple of dollars. Beyond a couple of candy bars or something from the fast food dollar menu, there isn’t much you can buy with just a few dollars these days, but that doesn’t mean that saving a few dollars is not worth the time of the effort.

Let’s say you want to start saving $5 per week. That’s only $20 per month, less than a round of beers at a local bar. But over a year, that adds up to $260. That’s enough for a round-trip plane ticket or a minor car repair. Let it go on for five years and you’ll have $1,300, enough for a round-trip plane ticket to Europe or to treat yourself to a very nice long-weekend trip.

The power of savings gets more and more impactful over time, but when you take into account compound interest, it gets even more lucrative!

Add Compound Interest for a Bigger Impact

So far, we have just looked at saving money as if you had put the cash under your mattress or stashed it in an account with no interest. If you invest the funds, they will grow even faster.

Let’s say you save the same $5 per week, but at the end of each year you put the $260 into a low fee S&P 500 index fund. If you invest at the end of each year and earn 9% per year, you would have over $1,500 at the end of five years. Of course, investments come with risk and it could also go down in value, but over a long time horizon, the market always goes up.

Over any 25 year period starting in 1970, the worst return of the S&P 500 was 9.28% compound annual growth rate, so a 9% estimate isn’t too far off. The best 25-year average compound annual growth rate over the same period is 17.25%. If you average that return, you’ll end up with $1,800 over five years.

But as you can see, I am quoting a 25 year average compound annual growth rate, so this is over a longer period of time. If you save $5 per week for 25 years and have a 12.98% annual return, which is the median 25 year compound annual growth rate average since 1970, you will end up with over $40,000!

Saving a Little is Better Than Nothing

$40,000 is not enough to retire on, but it is enough to make a difference in most people’s lives, and that is only $5 per week! If you were to save $10, $20, or more each week, you would end up with $80,000, $160,000, or more. It is all a factor of how much you save and how your investments perform.

But even if you can’t afford to put away $20 each week, you can save as little as a dollar or two, and that’s better than no savings at all. It helps you get into good saving habits so as your finances improve over time, saving more is no big stress.

Apps Can Make it Automatic

If you’re on board with starting small, one of the hardest parts of saving is remembering to actually save the money. Physically taking cash out of your wallet or logging into your bank’s website to do a transfer works, but there are much easier options today. Here are a few of my favorite apps for automated savings and investments.

Digit – Digit is a free savings app that you control via text message. After connecting to your bank account, Digit will automatically make small transfers from your checking to your Digit Savings. Digit checks your account balance before transferring and guarantees it will not overdraft your account. With a quick text message, the cash is back in your checking the next business day.

Dobot – Dobot is a mobile app for iOS and Android phones. After connecting your account, Dobot makes weekly transfers from your checking into a Dobot savings account. Within Dobot, you can attribute your savings to specific goals. Right now I’m saving for a trip to Iceland and buying my own small airplane. It’s cool to see my goals get closer every week!

Acorns – Acorns is a savings and investment app for iOS and Android. After connecting your accounts, Acorns will “round up” each transaction and invest the savings for you. For example, if you purchase something for $22.50, Acorns will round the transaction up to $23, and save the 50 cents for you. Over time, those round ups add up to a lot of money, which is automatically managed for you in low fee investments.

Make a Commitment to Save in 2017 and Beyond

Savings isn’t a boring topic, and almost every American can come up with at least a few dollars each week. Sticking to your budget and working on a side hustle makes it even easier to save more, so keep those in mind as you move forward with your savings and investments to reach your goals this year and for many years to come.

Know Before You Trade: Tips for Taming the Silver Market

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One of the fundamental aspects that will help you in your quest to tame the silver market and hopefully find a path to profits, is gaining an understanding on how silver behaves in the market compared to other commodities like gold and oil.

Keeping a track on the silver market will be easy when you visit www.MoneyMorning.com/tag/silver-prices, and in terms of knowing how to trade silver, here are some tips and insights that might help you to learn what to watch out for.

Similarities and differences

A good starting point would be to clear up what some investors might assume about trading gold and silver, which is that there is not much difference between trading either of these metals.

It is not that trading silver is completely different to trading gold, but dig below the surface, and you will soon see that there are subtle differences as well as similarities. You may be confused by these similarities and differences at first glance, but if you remember the two key aspects that set them apart and how these influence the way silver behaves in relation to gold, then you are on the right path to trading the silver market with a higher degree of confidence.

Be prepared for greater volatility

The first key aspect that is immediately noticeable when you compare price movements of silver and gold, is just how volatile silver is in comparison to gold.

The basic reason for the greater level of volatility in silver markets when compared to trading gold, is liquidity.

What you get when liquidity levels are lower is a situation where smaller amounts of money traded can have a sharper influence on prices and cause the price to move with greater volatility.

These smaller amounts of money can still be in the billions, but even so, this still often pales into relative insignificance in comparison to gold markets, where trading volumes are often much higher and deeper.

The reason why this is significant and needs to be understood when trading silver markets, is that you need to adjust stop losses accordingly, otherwise a spike in volatility could bounce you out of a trade and trigger a sale which could cost you money unnecessarily.

An important ratio

The other important dynamic that you will need to be aware of if you are going to get a good handle on trading silver markets, is that the gold and silver ratio is arguably one of the most important ratios to pay attention to when looking at commodities overall.

The simple reason why this data is such a useful tool is down to the fact that the ratio between gold and silver prices tends to move in identifiable cycles.

You will often find that when the ratio hits a cyclical low point, silver often becomes relatively inexpensive when compared to gold. Conversely, at a cyclical high point, you can often find that silver has a tendency to underperform gold in this scenario.

The significance of this pattern is clear. Watch the ratios and you get some decent clues about the momentum for the silver price, allowing you to place a trade accordingly.

Reading beyond the headlines

If you are a regular reader of newspapers and financial publications in general, you can’t have failed to notice that even when things seems to be ticking along nicely in the economy, there often seems to be a fair amount of doom and gloom in the headlines you are digesting.

Although it would not be unreasonable to expect the media to inject some positivity into their column inches , psychology plays its part in what sells newspapers and what doesn’t. This means that a headline telling tales of a virtual financial meltdown will invariably prompt higher newspaper sales than a headline telling is that everything is good in the world of finance and in general.

The point about this, is that if you learn to read beyond the headlines and digest the information that really matters, there is every chance that you could profit from an element of fear and panic that might hit some investors when they read certain stories, especially if it involves a stock or sector that they are invested in.

Fear, panic, doom and gloom, all spell trouble for certain markets, but the positive slant to consider is that more often than not, these headlines might just create an opportunity for a profitable trade.

If you find that silver futures have taken a dive in response to negative headlines, but the fundamentals suggest that this is an overreaction and that the price is looking oversold, this may well be the time to step in.

If you have the right knowledge and outlook about trading a commodity such as silver, there is every chance that you can successfully adopt the role of ringmaster and tame the silver market.

Alisha Dyer works in the world of investment banks (she’s a good person, honestly!). She uses her experience to teach those just starting out what to do, and what not to do.