The pros and cons of reinvesting your dividends

Julie Brownlee, Fsp Invest, 13 Nov. 2014

Tags: dividends, reinvesting dividends, advantages of reinvesting dividends, disadvantages of reinvesting dividends, compounding, investment strategy,

If you hold a number of income paying stocks, have you thought about reinvesting those dividends until you actually need the income?

Taking small bi-annual payments from your shares is certainly a nice thing. But if you reinvested those dividends, you could make your money work much harder for you.

This is all thanks to compounding.

So if you’re seriously thinking about reinvesting your dividends, what are the pros and cons of following a strategy like this?

Let’s take a closer look…

The advantages of reinvesting your dividends

Reinvesting your dividends is easy
Once you’ve made your investments into dividend paying stocks, it’s easy to reinvest your dividends. Then you can just sit back and let time do the hard work for you.

The only thing you need to do is periodically check your companies are still performing well and paying you dividends, Marc Lichtenfeld in Investment U explains.

Reinvesting your dividends stops you from overtrading
By buying and holding shares for the long-term to benefit from their dividends, it stops you from overtrading.

Overtrading means you end up spending a lot of money on commissions and fees to your stockbroker, which eats into your returns.

It also stops you from selling your investments at the wrong time.

Reinvesting your dividends works
Reinvesting your dividends allows compounding to work its magic. Overtime, your money will snowball.

Albert Einstein famously said that compounding was the most powerful force in nature.

The disadvantages of reinvesting your dividends

Reinvesting your dividends is a boring strategy to follow
By reinvesting your dividends, you need to buy and hold. And hold for the long-term.

For many investors, this seems a boring investment strategy, but that doesn’t mean it doesn’t work.

If you love trading, set some money aside in a separate account for this purpose.

Reinvesting your dividends take time
Compounding doesn’t happen overnight. And over the first few years, it might not look like a lot is happening.

But over the long-term, it will start to gather momentum.

Reinvesting your dividends means you need to have faith in your research
For this strategy to work, you need to hold your shares, even if the market is crashing. Lower share prices means you can buy more shares with your dividends.

The more shares you own, the more dividends you’ll receive, which you can use to buy more shares.

To get the best out of this investment strategy, you need to let your money compound for as long as possible. The earlier you start, the better.

So there you have it, the pros and cons of reinvesting your dividends.

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