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Is a focus on dividends the right approach?

28/06/2024

Many investors opt for dividend investing. It’s easy to see why, when you consider the prospect of regular dividend income, as well as dividend stocks offering better performance and lower volatility than the S&P 500 over time. 

But is focusing mainly on dividend investing really the right approach? 

 

What is dividend investing?

Investing in shares generally means that your shares will either increase or decrease in value as the value of the company changes. Some companies, however, also offer dividend payments to shareholders: a portion of the company’s profits that are divided amongst some or all of its shareholders. 

Paying regular dividends gives investors a regular income from their investment, and can also fuel demand, potentially raising share prices. While some companies pay their dividends in cash, others pay in the form of additional shares in the company. 

The UK has a fairly strong dividend investing culture, fuelled in no small part by older investors looking for an income to supplement their state pension payments. While regular income is a big draw, there are risks and downsides that investors may want to consider before opting for dividend investing. 

 

The risks and drawbacks of dividend investing

Dividend stocks may, in general, be less volatile, but that’s not to say that they’re without risk – as COVID-19 proved. 

Pre-pandemic, UK dividend payments had nearly reached record highs. However, COVID destroyed the cash flows of many businesses and, as a result, dividend payments were reduced, suspended or cut entirely. In 2020, UK dividends saw a 42% collapse – and even now, they’re 10% below their 2019 highs. While another pandemic similar to COVID-19 may not be likely, it demonstrates how a reliance on one type of investment can potentially cause problems for an investor. 

Despite being deemed lower-risk, dividend investing still requires you to invest in stocks – which are at the riskier end of the investing spectrum. What’s more, dividends are often paid by companies that have passed their high-growth period: share prices could fall in a particular year, essentially cancelling out whatever dividend payment you receive. 

Dividend payments are classed as income by HMRC, and will be taxed as such unless contained within some form of tax wrapper. 

As with any investment type, investing in dividend-paying stocks will require you to do plenty of research to determine whether it’s the right choice for you. 

 

“Stable Rise Limited is not authorised or registered by the Financial Conduct Authority. The marketing materials are not intended to provide financial advice nor promote any individual financial products.”

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