NEW YORK (TheStreet) -- Although they don't sound too attractive, DRIPs -- dividend reinvestment plans -- offer the opportunity to grow assets by gradually converting an income stream into more shares without fees. It's also a solution for the inveterate buy-and-hold investor because it allows for the magic of compounding.
DRIPs are old-fashioned: Investors buy equity shares directly from the company and enroll in its DRIP program to reinvest dividends into new shares. Investors can also set up regular stock purchases. Often investors buy fractional shares and odd-lot shares through DRIPs. Through the plan, you might also be buying at a time that you wouldn't ordinarily want to buy shares in that particular company.
For those advocating a dollar cost averaging approach, note that to truly cost average one would need a large portfolio of dividend-paying stocks with payment dates broadly distributed to achieve a sufficient sampling of the market's ups and downs. Otherwise, since dividend dates are clustered on a quarterly basis, one is at the mercy of the dividend schedule.
Using the 2013 S&P 500 average for dividend yields, DRIP investors could earn a quarterly income stream of approximately 0.5% per eligible position. For example, anyone reinvesting quarterly dividends on 1,000 shares of Microsoft (MSFT - Get Report), which offers a dividend yield nearly 51.7% higher than the S&P 500 average, would be able to add approximately 7.6 shares.
While there is certainly a body of evidence that suggests the out-performance of dividend-paying stocks, I have never fully understood the allure of dividend-centric investing. You get the opportunity to pay taxes in exchange for the privilege of being able to reduce your stock's cost basis, to summarize the transaction.But for many the dividend represents a tangible expression of ownership and sharing of good fortune. What better way to reciprocate that good fortune than by re-investing the dividend for even more shares? However, small quarterly distributions -- and being held hostage by dividend payment timing -- conspire to make the DRIP strategy inefficient for those interested in compounded growth, or for those who don't have the patience to wait many years. Is there a way to make DRIPs more appealing? Yes -- with option sales.
Check Out Our Best Services for Investors
- $2.5+ million portfolio
- Large-cap and dividend focus
- Intraday trade alerts from Cramer
Access the tool that DOMINATES the Russell 2000 and the S&P 500.
- Buy, hold, or sell recommendations for over 4,300 stocks
- Unlimited research reports on your favorite stocks
- A custom stock screener
- Model portfolio
- Stocks trading below $10
- Intraday trade alerts