I was recently asked when it would be wise to not reinvest dividends. After all, most financial experts recommend you reinvest dividends most of the time.
And for good reason! For example, if you were to invest $10k into Apple in 2012, but also reinvest the dividends you received since then, by today you would have $9,370 more than you would have had from just holding the shares.
Appealing, I know — but there are instances where it may be more appropriate to take the money and run. That is, to spend the cash from those dividends elsewhere.
Three reasons not to reinvest
As you’ve likely figured out by now, there is seldom (if ever) a one-size-fits-all answer to any investment question. Accordingly, there are a few good reasons to not reinvest your dividends and instead use the money on something else:
- Balancing your portfolio – Reinvesting dividends will slowly increase your position in the company paying them, and may make you too concentrated if that company already represents a large portion of your portfolio (5% or more). In that case, unless you’re constantly rebalancing your holdings to avoid such over-concentrations, it may be wise to not reinvest dividends.
- Phasing out risk – Perhaps your plan is to slowly become less and less aggressive with your investments over the years. If so, letting the dividends pay to cash and reinvesting that cash in some less aggressive investment (like bonds) could be a comfortable, metered way of doing so.
- 3.) Income! – Sometimes you just need the cash! This is especially likely when you are in or approaching retirement and short-term income becomes a bigger priority than long-term growth. Nothing wrong with taking profits then – that’s what they’re for!
Some will also say that you should just take the cash if the underlying stock isn’t performing well, but I completely disagree with that advice. A company that is paying dividends usually has an established track record of earning profits – so even if their share price is in a slump, odds are it will recover eventually.
Remember, we invest in companies, not stocks!
In fact, one of the benefits of dividends is that they pay regardless of the stock’s recent price movement. And best of all, dividends are often a good sign that a company is worth the investment!