Eyeing dividend stocks to invest? Basic facts to keep in mind

Summary

• Dividend stocks are always in demand since these offer passive income to investors.
• There are several firms in the market that offer regular dividends to their investors.
• You can identify whether a firm is paying dividend regularly or not by studying the company’s balance sheet and other financial statements. 

Dividend stocks make for a good source of passive income for investors. You can identify whether a firm is paying dividend regularly or not by examining the company’s balance sheet and other financial statements. Before going ahead, we must clearly understand what a dividend is and how to go ahead with dividend investing.

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What is a dividend?

Dividend is a part of profit that a company shares with its shareholders.

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How can dividend income be used?

• You can reinvest the income to purchase more shares of the company.
• You can buy stock in a different company.
• Saving or spending the cash is another possibility.

There are certain key metrics to consider before you start purchasing dividend stocks. These are important to identify reliable dividend stocks.

• Dividend yield - The ratio of a firm’s annual dividend to its share price equals the dividend yield.
• Payout ratio - The dividend as a percentage of a company's earnings.
• Total return - The increase in stock price plus dividends paid.
• EPS - The EPS metric normalises a company's earnings to the per-share value.

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Here are a few general tips to know:

• You must also understand that high yield should not be the sole criterion while buying stocks. Generally, newbies make the mistake of buying only the stocks with high yields. The high yields generally are due to a fall in the stock price owing to the risk of the dividend being cut.
• You must evaluate the payout ratio of a company while gauging a dividend’s sustainability.
• You must always have a detailed idea of a company’s dividend history.
• You must also be aware about how dividends are taxed.

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Dividend reinvesting plan

The long-term investors could also look at using dividend reinvesting plan, also called a DRIP. This strategy helps in reinvesting the dividend one earns, without fees or commissions, back into shares of that company.

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