Buying shares of a stock just before its dividend is paid and selling it right after, in theory, seems like a sound investment strategy—in reality, it's often not. The buyer would get the dividend, but the stock would decline in value by the amount of the dividend. Why do stock prices decline right after the dividend is paid? Because markets typically discount the price of a stock by a corresponding amount after shareholders can no longer receive the dividend.
Key Takeaways
- Dividends are distributions of a portion of a company's earningspaid to shareholders.
- When a stock goes ex-dividend, the share price often falls by a similar amount.
- The market effectively adjusts the stock's price to reflect the profits distributed to investors.
The Dividend Effect
A dividend is a distribution of a portion of a company's earningspaid to a class of its shareholders in the form of cash, shares of stock, or other property. It is a share of the company's profits and a reward to its investors.
For many investors, dividends are a major point of stock ownership. Long-term investors look to hold stocks for years and dividends can help supplement their income. Dividends can be a sign that a company is doing well. That's why a stock's price may rise immediately after a dividend is announced.
However, on the ex-dividend date, the stock's value will inevitably fall. The value of the stock will fall by an amount roughly corresponding to the total amount paid in dividends. The market price has been adjusted to account for the revenue that has been removed from its books.
This loss in value is not permanent, of course. The dividend having been accounted for, the stock and the company will move forward, for better or worse. Long-term stockholders are generally unaffected. The dividend check they just received makes up for the loss in the market value of their shares.
Dividends are taxable. They have to be claimed as taxable income on the following year's income tax return.
Day Traders and Dividend Capture
Despite the downsides we've just discussed, there is a group of traders that are willing to undertake the risks involved with this dividend strategy—day traders. Day trading involves making dozens of trades in a single day in order to profit from intraday market price action.
Day traders will use what's known as the dividend capture strategy, or a variation of it, to make quick profits by holding shares just long enough to capture the dividend the stock pays. The strategy requires the ability to move quickly in and out of the trade to take profits and close out the trade so funds can be available for the next trade.
Because day traders attempt to profit from small, short-term price movements, it's difficult to earn large sums with this strategy without starting off with large amounts of investment capital. The potential gains from each trade will usually be small.
How Does Dividend Capture Work?
The term dividend capture refers to an investment strategy that focuses on buying and selling dividend-paying stocks. It is a timing-oriented strategy used by an investor who buys a stock just before its ex-dividend or reinvestment date to capture the dividend.
What Is the Yield on Dividend Capture?
The yield on dividend capture is the actual yield you get after accounting for taxes and transaction costs. It’s calculated by subtracting any transaction costs and the tax (where dividends captured via this strategy are taxed at the higher ordinary dividends rate versus the lower qualified dividends rate) from the dividend the company pays.
How Long Do I Need to Own a Stock to Collect the Dividend?
To collect a stock’s dividend you must own the stock at least two days before the record date and hold the shares until the ex-date.
The Bottom Line
While buying stock right before the dividend date and then selling may seem like a good strategy on the surface, it's often not. Essentially, the investor would likely break even due to the decrease in stock value after the ex-dividend date. Buyers would also still have to pay taxes on the dividend.
FAQs
The Dividend Effect
Should I buy before or after dividend? ›
If you buy stocks one day or more before their ex-dividend date, you will still get the dividend. That's when a stock is said to trade cum-dividend, or with dividend. If you buy on the ex-dividend date or later, you won't get the dividend. The ex-dividend date is in place to allow pending stock trades to settle.
Why sell before dividend? ›
If you wait to sell on or after the ex-dividend date, sure yes, you receive a dividend, but at the expense of the value of your shareholding. On the Ex-Dividend date, the price of a share falls by roughly the dividend amount – all other things being equal.
Should I buy stock just before the ex-dividend date? ›
If you buy a stock one day before the ex-dividend, you will get the dividend. If you buy on the ex-dividend date or any day after, you won't get the dividend. Conversely, if you want to sell a stock and still get a dividend that has been declared, you need to hang onto it until the ex-dividend day.
Why buy stocks that don t pay dividends? ›
Advantages of non-dividend-paying stock
These funds can be used by the business for expansion, new products, reducing debt, or other needs. This reinvestment can result in higher capital appreciation and an outperforming stock price.
Why not buy a stock before dividend and then sell? ›
Dividends can be a sign that a company is doing well. That's why a stock's price may rise immediately after a dividend is announced. However, on the ex-dividend date, the stock's value will inevitably fall. The value of the stock will fall by an amount roughly corresponding to the total amount paid in dividends.
How many days before should I buy share to get dividend? ›
The ex-dividend date is the first day the stock trades without its dividend, thus ex-dividend. If you want to get the dividend payment, you need to own the stock by this day. That means you have to buy before the end of the day before the ex-dividend date to get the next dividend. In other words, it's the cut-off date.
Do you sell before or after dividend? ›
Another important note to consider: as long as you purchase a stock prior to the ex-dividend date, you can then sell the stock any time on or after the ex-dividend date and still receive the dividend. A common misconception is that investors need to hold the stock through the record date or pay date.
Why you should only buy dividend stocks? ›
Five of the primary reasons why dividends matter for investors include the fact they substantially increase stock investing profits, provide an extra metric for fundamental analysis, reduce overall portfolio risk, offer tax advantages, and help to preserve the purchasing power of capital.
Should you buy stock before or after earnings? ›
If you believe a company will post strong earnings and expect the stock to rise after the announcement, you could purchase the stock beforehand. Conversely, if you believe a company will post disappointing earnings and expect the stock to decline after the announcement, you could short the stock.
Dividend capture can be an effective short-term trading strategy in certain markets, but it's not a plan to gain long-term wealth. Dividend harvesting can provide steady and reliable income without worrying too much about volatile market gyrations or confusing technical analysis.
What is the dividend capture strategy? ›
“Dividend capture strategy” returns are the trading technique of buying a stock just before the dividend is paid, holding it just long enough to collect the dividend, then selling it. If you can sell it for as much as you paid, you have “captured” the dividend at no cost, other than the transaction costs.
What are the three important dates for dividends? ›
When it comes to investing for dividends, there are three key dates that everyone should memorize. The three dates are the date of declaration, date of record, and date of payment.
Can you lose money on dividend stocks? ›
If a company whose stock you own is losing money but still paying a dividend, it may be time to sell. "Dividend payers in financial straits may try to stave off a dividend cut—which can drive away shareholders—by funding payouts with borrowed funds or dwindling cash reserves," Steve says.
What's the highest dividend paying stock? ›
20 high-dividend stocks
| Company | Dividend Yield |
|---|
| CVR Energy Inc (CVI) | 9.65% |
| Civitas Resources Inc (CIVI) | 9.65% |
| Altria Group Inc. (MO) | 8.73% |
| Evolution Petroleum Corporation (EPM) | 8.67% |
17 more rows6 days ago
“One mistake to avoid,” Cabacungan says, “is to buy a company's stock simply because it issues a high dividend.” If the company has leveraged excessive debt to fund the dividend, it could come at the expense of future profitability and hurt growth prospects.
Is it better to buy stocks with dividends or not? ›
Dividend investing can be a great investment strategy. Dividend stocks have historically outperformed the S&P 500 with less volatility. That's because dividend stocks provide two sources of return: regular income from dividend payments and capital appreciation of the stock price.
Will stock prices drop after a dividend? ›
After a stock goes ex-dividend, the share price typically drops by the amount of the dividend paid to reflect the fact that new shareholders are not entitled to that payment. Dividends paid out as stock instead of cash can dilute earnings, which can also have a negative impact on share prices in the short term.
Do stock prices go up before dividend? ›
This often causes the price of a stock to increase in the days leading up to its ex-dividend date. Then, when the market opens on the ex-dividend date, the security will usually drop in price by the amount of the expected dividend or distribution to be paid.
