Dividend Reinvestment: Potential Thousands in Extra Gains
Investing in the UK stock market can yield significant returns, but a closer look reveals that reinvesting dividends can significantly boost these gains over the long term.
According to financial expert Hollands, the difference between total return and capital return in various UK indices is striking. The FTSE 100, for instance, has a total return of 1,926%, compared to a mere 391% capital return over the past forty years, a difference of £5,866. The FTSE 250, excluding investment trusts, has a total return of 600% since 1998, compared to a capital return of 3,552 less, demonstrating the power of reinvested dividends.
The AIM market, known for its riskier investments, shows the most marked difference. Over a 10-year period, only total returns were positive, returning £11,335 versus £9,851 when dividends weren't reinvested.
The S&P 500, a popular index in the US, delivered the largest total return on £10,000 invested over 10 years, at £41,485 versus £34,699 on a capital return basis, a difference of £6,786.
Reinvesting dividends creates a compounding effect, benefiting investors not just from the returns on the original cash invested, but also the returns on the gains made on the dividends. Over a 10-year period, investing in the FTSE 100 with dividends reinvested nearly doubled growth compared to capital growth alone: £12,000 invested monthly grew to £18,132 with reinvested dividends versus £14,764 without reinvestment, representing a 51% growth versus 23%. Over 25 years, the difference is even more pronounced. £30,000 invested in total grew to £76,397 with dividends reinvested compared to £44,187 without reinvestment—more than 3 times the original investment vs. about 1.5 times without reinvestment.
Hollands suggests looking for companies that can pay a sustainable and growing dividend that is amply covered by earnings per share. He also advises considering companies that have the potential to grow their dividends over time. Dividends can be paid out in cash or additional shares of stock.
However, Hollands warns against being dazzled by high dividend yields without investigating their sustainability. He also mentions that some companies now adopt share buybacks alongside dividends, which can help enhance shareholder returns.
In summary, reinvesting dividends leverages the compounding effect, significantly boosting long-term investment growth in the UK stock market compared to simply holding shares and spending dividend income. Investors who reinvest dividends can expect substantially higher cumulative wealth over decades.
Millions of investors could be missing out on thousands of pounds each by failing to reinvest their dividends. The MSCI Emerging Markets Index, the MSCI Europe Index, and the Dow Jones Index also demonstrate the benefits of reinvesting dividends in other markets.
In the realm of personal finance, investing in UK stock markets and reinvesting dividends has been shown to significantly enhance long-term returns. For instance, the FTSE 100 and FTSE 250 indices have demonstrated that reinvesting dividends can double or even triple the capital growth over a period of years. Investment trusts, which are companies that pool investors' money to make various investments, also benefit from dividend reinvestment. Reinvesting dividends can also contribute to the growth of pension funds, as the compounding effect increases the accumulated wealth over time. Furthermore, not only does reinvesting dividends benefit from the returns on the original cash invested, but it also benefits from the returns on the gains made on those dividends, fostering a cycle of growth.
