≡ Menu

Dividend income and the Monevator HYP

Dividend income has begun to drip into the HYP.

The first dividend income from the high yield portfolio (HYP) I set-up in May has already begun trickling into my clammy hands!

More precisely, the dividend income has been paid into the Halifax Sharebuilder account where I hold the portfolio. It will stay there until I withdraw it.

So far I’ve received a total of £14.50 in income, paid by four constituents: Royal Dutch Shell, Aberdeen Asset Management, Unilever, and Admiral. Not much of a haul from the £5,000 I invested but it’s early days. A full 16 companies are yet to make any payment, and all pay at least twice a year.

I calculate the HYP’s starting forecast yield to be around 4.3%. Therefore, we might expect at least £215 over a full 12 months to 6th May – though in the first year it’s certain to fall below that because some companies would have been trading ex-dividend when I jumped into these shares, and other payments due won’t actually make it into my account until the second year.

What I’ll do with the dividend income

As previously explained, I do not intend to reinvest the dividend income from this demo HYP back into these shares.

Partly that’s to reinforce a point: I think HYP’s are best thought of as income vehicles, rather than as necessarily a good route to growing a capital sum (although that said there’s nothing wrong with targeting income from day one and avoiding onerous switching costs and hassle later on, even if it’s potentially not a winning strategy in total return terms. There’s more than one way to skin cats).

“Do you know the only thing that gives me pleasure? It’s to see my dividends coming in…”

– J.D. Rockefeller.

I’m also not reinvesting these small amounts of dividend income because I want to avoid the tedious paperwork associated with reinvesting dividends outside of an ISA should I ever need to calculate capital gains tax on the shares.

But mainly I want to ‘cleanly’ see what my initial £5,000 investment is paying out in a few year’s time, and to judge if it has achieved my target of delivering more cash in real terms (that is, inflation-adjusted) than today.

This will be trivially easy to see if I simply keep the capital investment intact, and then add up and withdraw all the income every year. I’ll report the annual dividend income sum here on Monevator, and we can ponder what a fully scaled-up equity income portfolio might mean for a pensioner currently trying to get by on a squeezed and cheapened fixed income.

Dividend income is key to long-term returns

Now, if you’re a long-term investor in the stock market, you should certainly be reinvesting your dividend income.

This is super-simple with Halifax Sharebuilder, and it only charges you 1% of the sum being reinvested. (So 10p on automatic reinvestment of £10). 2% of the sum being reinvested (so 20p on an automatic reinvestment of £20). (The charge went up to 2% since I wrote this – see Martyn’s comments below).

Alternatively you could allow the dividend income to add up until you’ve got enough money to make another share purchase efficiently after dealing charges. I’d probably do this myself, to take the HYP to 30-odd shares, before I began to reinvest in existing holdings.

However you choose to reinvest your money from shares, make sure you do it if you’re under 60. Dividend income is extraordinarily important. While the financial media goes crazy for daily share price moves, it’s the compound impact of reinvesting dividend income over the decades that has generated the bulk of the stock market’s winning longer-term performance.

According to the infamous Barclays Equity Gilt Study 2011 edition of historical returns:

  • £100 invested in UK equities in 1899 would have been worth just £180 by the end of 2010, after inflation. That’s barely doubled!
  • In contrast, if you’d reinvested your dividends over the same time period, you’d have been left with an after-inflation sum of £24,133!

Spending your capital is a sin, just like the old-timers said. But spending your income too early isn’t going to lead to a heavenly retirement, either.

A fudge to track the HYP’s total return

Given the importance of dividend reinvestment, what I may do is track the year-end capital value of the demo HYP in a spreadsheet (and in an annual review on Monevator!) and then assume I reinvested that year’s dividend income into buying a fresh chunk of that same portfolio.

I’ll knock off 1.75% of the total cash amount (note: not the running yield!) of dividend income being reinvested to account for fees, spreads, and stamp duty.

For example, if I get £200 of dividends over the year, then I’ll assume £3.50 is lost to costs and add the remaining £196.50 to the ongoing portfolio value.

The next year I can simply calculate the yield due on that sum based on the actual return from the real-money portfolio, and compound again. Unless I’m missing something obvious, this should give a rough handle on how the portfolio would be growing if the money wasn’t being withdrawn to spend on whisky and women (or more likely Kindle books and Marks & Spencer canapes).

Obviously it won’t produce exactly the same result as reinvesting dividend income throughout the year would, but it will serve as a decent approximation and anomalies should balance out over time.

{ 13 comments… add one }
  • 1 Salis Grano July 1, 2011, 9:31 am

    This is pretty much my approach for the next few years at least. BTW, some typos are inspired and this is one of the best:

    >compound impacy

    I think you’ve introduced a new technical term into finance 🙂

  • 2 ermine July 1, 2011, 9:38 am

    While the financial media goes crazy for daily share price moves, it’s the compound impact of reinvesting dividend income over the decades that has generated the bulk of the stock market’s winning longer-term performance.

    Wish you’d been around to tell me this in the heady days of the dot-com boom/bust. I’d always discounted dividend income because what everybody chased was growth and the fast buck, heck most of those companies didn’t pay dividends anyway!

    Sadly the power of reinvesting dividends is something you probably have to see working before you believe it. In my case is was the company directshare system, where I invest £125 pcm of pretax cash into company shares, which were embargoed for five years to get the tax break.

    The share price tanked by more than the 40% tax break, and I was gobsmacked to see I was still well up in total value by the dividend reinvestment (and presumably the effective pound cost averaging of that, the actual payout didn’t change as much as the SP apart from one year’s suspension).

    Your method of accounting for the reinvestment increase looks fair enough to me as described. You might get a lag of half a year due to the end of year sampling.

    In my approach to this I add the divi income to the amount added for new investment, and try and use what is purchased with this as a coarse steer to keep the asset allocation balanced. I do wonder if you might not end up in the long term with a projected snapshot of what was a HYP as of early 2011. Presumably the sectors thet produce a HY vary over time, though I can’t say I’ve really observed that over the last year and a bit.

  • 3 Moneyman July 1, 2011, 9:53 am

    Good luck – as you say, its nice to see the money trickle in.

    Probably not relevant for this demonstratoin exercise (and excuse me if I missed it) but you don’t explicitly mention tax. I think you imply that this HYP is outside an ISA, but presumably you would recommend *most*people to take steps to shield the income from tax (which will at least simplify your capital gains calcs…)

  • 4 The Investor July 1, 2011, 10:31 am

    Oh dear, I was writing this one through sleepy eyelids! Will fix tonight – apologies! 😉

  • 5 The Investor July 1, 2011, 11:00 am

    @Moneyman — Absolutely, everyone should tax exempt all they can in my view, even lower rate payers. (Even if it costs them a small annual fee!) As it happens this demo HYP is outside of an ISA though, as I was all out of annual allocation as usual when I set it up. (I fill my ISAs on the 6th April every year).

    @Ermine — Interesting case study there. I have a couple of duff VCTs where I’m thankful for the dividends to offset the pain. Of course in an efficient market share growth from retained earnings should make up for a lower dividend. But there’s a lot of buts, and also income is psychologically helpful for most of us I think.

  • 6 UK Value Investor July 1, 2011, 11:03 pm

    As a somewhat recent convert to the joy of dividends, I can only agree. The sight of hard cash appearing in my account, most recently from Interserve and BP, is somehow much more gratifying than an equivalent gain in share price.

    I suppose with cash you know it’s not going to disappear the following day just because the market has a down day.

  • 7 oldtimer47 July 2, 2011, 2:50 pm

    I really enjoy reading your blog and I’m posting as a result of the ‘if you are under 60’ comment applied to dividend reinvestment. I’m over 60 and still doing it !

    I have a SIPP containing dividend/interest paying Investment Trusts and Funds that are reinvested. My strategy is to re-invest them until the time comes to take them via drawdown to live off! Each year I can see how much the SIPP has ‘earned’ and whether the plan is likely to work.

    Anyway returning to the point I think under 60’s definitely should reinvest but don’t necessarily stop at 60!

  • 8 The Investor July 2, 2011, 3:23 pm

    @oldtimer47 — Thanks for the generous comments about the blog, and very glad to hear you’re still reinvesting! A man after my own heart. Of course if you don’t need to spend the money then continual reinvesting is the way forward.

    At some point though most of us will need or want to spend our hard-gotten gains, which was what I was referring to. The precise cut-off point will depend on individual circumstances, and also factors such as whether you intend to leave any sort of legacy.

    Do please share more of your experience in the comments of future posts, too!

  • 9 Stephen July 5, 2011, 3:56 pm

    I was hoping to set up a similar experiment for myself but am very new to investing, usually leaving it for my FA to update my ISA.

    It may be a silly question or I may have missed it in an earlier blog but although your aiming for income, I was wondering if you had any hope/expectation of capital growth over the medium term?

  • 10 Amateur Investor September 14, 2011, 11:34 am

    I’ve only just discovered the quote by J.D. Rockefeller, but I feel it sums up perfectly my current attitude to trading!

    And your figures that £100 invested in UK equities in 1899 would have been worth just £180 by the end of 2010, after inflation, but £24,133 if you’d reinvested your dividends over the same time period, shows why J.D.’s pleasure at receiving dividends should be shared by all of us!

  • 11 Martyn Smith June 7, 2013, 7:16 pm

    Hi There,
    You indicate that for Sharebuilder regular investments “This is super-simple with Halifax Sharebuilder, and it only charges you 1% of the sum being reinvested.”, however, I believe this has now changed to 2% for dividend re-investment (subject to £11.95 cap) or £2 per selected stock for “planned” investments. Not quite so generous on a £10 re-investment!!

    See their website here: http://www.halifax.co.uk/sharedealing/charges/
    and here:

    All the best, Martyn.

  • 12 The Investor June 7, 2013, 8:04 pm

    @Martyn — Thanks for the details, looks like they’ve put the price up from 1-2% at some stage. And to think when I first used Sharebuilder dividend reinvestment was free! Sigh. I’ll update the article above.

    Incidentally, nobody should use any sort of flat fee on a small reinvestment, clearly. A 2% dividend reinvestment charge isn’t great, but as you imply it’s a lot better than a 20% charge, as per your example. If I was reinvesting income (which I’m not for this demo) on a smallish portfolio, then I’d probably let all the dividends roll up over the year and then buy a new shareholding, or add to an existing one if the portfolio was getting too big (say over 35-40 stocks).

  • 13 dawn May 24, 2014, 12:32 pm

    fascinating stuff. love reading about it all.

Leave a Comment