DRIP is the short acronym for Dividend ReInvestment Plan. Reinvesting dividends is a simple, yet powerful, concept that employees with stock purchase plans (ESPP) or DIY investors can leverage to build a dividend growth portfolio. There are two types of DRIP investors can leverage:
- Full DRIP – This approach implies that all pennies you received from the company’s dividend is re-invested and fractional shares are tracked. With individual stocks, this is only possible through a transfer agent.
- Synthetic DRIP – This approach is provided by discount brokers and only full shares can be purchased and added to your account.
With both types of plan, DRIP simply means that you can put your money at work and watch it grow.
These plans are offered by the corporation and approved by the board of directors of public corporation and offered to shareholders. Most plans are similar in that they allow shareholders to purchase shares (including fractional) with the dividend cash received by the company.
In most cases, these plans are managed by transfer agent companies such as Computershare, CST Trust Company or Valiant Trust. The transfer agents will manage the account on behalf of the company you are investing in.
Both plans below will allow investors to not only put compound growth at work but to also apply a dollar-cost averaging approach.
Full DRIP with Transfer Agents
- Cash dividends can be reinvested to purchase shares (including fractional)
- Some corporation will provide a discount on the shares purchased
- Some plans will allow you to make optional cash purchase (OCP) at little to no commission
- When available, the optional cash purchase can have a minimum and a maximum
Fractional and discounted shares can really pay off over time. It accelerates the compound growth of DRIP investing.
By default, the dividends is fully re-invested but you have the options, in some cases, to have it paid out in cash.
Synthetic DRIP with Discount Brokers
- Dividend is paid and deposited in your account
- Discount broker acquires shares if enough money is present and deducts the cost of the share
- Discount from corporation can be applied but it depends on the discount broker
Starting a synthetic DRIP is as simple as asking your discount broker to start re-investing your dividends. In some cases, it’s an all or nothing. With an all or nothing discount broker, it means that all dividends from every holdings in the account will be re-invested if it meets the full share requirements.
Let’s take Fortis TSE:FTS for example, it’s a Canadian Dividend Aristocrat and it has increased its dividends for many years. Imagine that you were invested in Fortis 20 years ago and you had your dividend reinvested. You would have the following benefits:
- Full and/or fractional shares purchase every quarter
- A discount of 2% on the shares purchased
Below is a table showing you the difference between fractional shares and full shares. After 20 years, you end up with 8 more shares simply by leveraging fractional shares. If you do OCP, it also buys fractional shares for you. Over time, it can add up. The table below simply assumes you buy once and let compound growth do its work.
|Year||Price||Value||Shares||Fractional Shares||Full Shares||Dividends||Dividend / Year|
As you can see, when you are starting, the fractional shares can really help accelerate your portfolio. If you were really young and slowly adding a couple of hundred dollars a year, the fractional shares can matter. I believe that using DRIP through a transfer agent is the best way to educate young adult about investing and getting them started. There is no way they can be tempted to quickly sell or buy or to be obsessed with technical analysis.