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Why you should consider Dividends as a source of retirement income

As a shareholder, there are two main ways that your investment brings a return. The first, and most widely recognized, occurs when the firm you have invested in grows and its share price increases to reflect that growth. The second way to get a return comes through dividends! Dividends are paid out on a per share basis. For example, if Delta (DAL) announces a dividend of 50 cents per share, investors will receive the dividend for each share they own. There are three important dates that investors must recognize when investing in a firm that pays out dividends: the declaration date, ex-dividend date, and payable date. The declaration date is as simple as the title suggests, it declares what the dividend will be and when it will be payable. The ex-dividend date is the final day that an investor can own shares to qualify for the upcoming dividend, and the payable date is the day when the funds are sent out. Since dividends are usually paid out quarterly this process occurs around four times a year. Once an investor receives the cash one can choose to reinvest the funds or use it as income. Why could dividends work for you? We are in a roaring bull market that has been historical and very profitable for many investors. As bond yields have gone down many investors have flocked to equities and it has produced a historically high earnings multiple in the market. Not only does this foreshadow a market correction in the future, but it also means that significant capital gains will be harder to come by as the values for stocks reach a peak. Thankfully, even as we approach another recession we have a template from the recent market in 2008 that can give investors hope. Even as the markets lost 30% of their value in 2008 over 200 companies increased their dividend at the same time. In fact, since 1930, 42% of the S&P 500’s return is attributed to dividends (Hartford Funds). Dividends provide a great source of income that allows an investor to avoid touching one’s principal early in retirement. Most strategies involve a withdrawal mix of principal and dividend income; however, an investor with a large nest can afford to stay away from the principal for a longer period of time. The extra time given to the principal allows the portfolio to have “time in the market” resulting in growth despite volatility. Additionally, equities in the S&P 500 that offer dividends have been found to have significantly less volatility in the last 45 years. Another major concern throughout retirement is the effect of inflation on a retiree’s buying power. However, dividends in the S&P 500 have grown at an average of 5.7% in the last 50 years outpacing inflation which has been measured at 4.2%.

What companies are the best to invest in?

It's important in selection to remember that every investment decision is based on investor risk tolerance and the corresponding rate of return. Here at Nicholas Wealth Management, your needs are at the core of every decision made and every situation is unique. In general, companies that pay safe and growing dividends are the best to invest in. It is important to focus on growing the dividend income rather than the general volatility of the overall portfolio. Companies must generate profits above and beyond operating expenses and other costs in order to afford a dividend. Therefore, when a company is in financial distress the first thing to get cut or removed may be a dividend. It is imperative that investors looking to retire or thinking about retirement consult with a financial advisor to discuss whether a dividend income strategy would work for them. Additionally, what the best implementation for a dividend strategy would look like for them. In these risky economic conditions, it is paramount that investors find multiple ways to protect, grow, and produce income from their portfolio. By using dividends as a retirement income strategy you can accomplish all three. Sources: Hartford Funds Research