Three Reasons to Take a Total Return Approach to Investing vs. Investing in Dividend Stocks

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  • A dividend gives you cash you already own

  • Dividend stocks experience large losses like the stock market. A conservative portfolio does not experience those same levels of loss.

  • Dividends are taxed at a higher rate than capital gains.

A dividend just gives you cash that you already own.

Shareholders own companies. If you own a share of stock, you own a fraction of all of its current assets and future profits. Part of what you own is cash that the company owns. A dividend is merely a transfer of that cash to you. You are not richer or poorer than you were before the dividend is issued. The company (and your stock) is worth a little bit less because it has less cash and your bank account is worth a little bit more. So the price of a stock on the date where dividends are locked in is usually down by about the amount of the dividend, plus or minus the effects of any news that affects the companies outlook. The shareholder gets the cash, and has to pay taxes on it.

Dividend stocks experience large losses that a better diversified portfolio does not.

A diversified portfolio with different asset classes and geographies is less risky than a stock, or a single type of stock like high dividend stock. Our portfolios are thoughtfully designed to help you be resilient through recessions - times when the value of all companies, including those that issue dividends, decline.

We are able to better manage risk in our portfolios by allocating to a variety of diversifying assets. We have government bonds, gold, and risk-managed stocks (i.e., instead of buying companies based on market capitalization we buy them according to how risky they are, which lowers the overall portfolio risk). This combination of diversifying assets is designed to make the portfolios resilient across any number of scenarios when dividend stocks may fail.

For example, compare the performance of our portfolios designed for retirees to a popular dividend stock ETF in 2020.

Dividend stocks are not a replacement for a retirement portfolio - 2020 example

When the economy suffers, the companies that issue dividends suffer alongside the economy as a whole. Companies that pay regular and increasing dividends are sometimes, but not always, higher quality and more stable than other companies. Investors who seek out higher quality companies can use dividends as one element to analyze among many. But while high dividend stocks may be an indicator of relative quality, that doesn’t insulate companies from struggling in recessions, cutting dividends, and losing value:

Dividend stocks behave like the rest of the stock market

To minimize taxes, it’s best to avoid dividends and maximize capital gains

Foreign dividends are taxed at higher rates than capital gains in Canada, so you will generally save on taxes by using a total return approach. Also, you only realize capital gains when you sell stock at a profit, and in exactly the amount that you need, while dividends provide you with an amount of income that is set by the company and does not vary. While Canadian dividends receive preferential treatment compared to foreign dividends, concentrating too much in Canadian dividend stocks leads to meaningfully less diversification.

Disclosure: Data from Bloomberg.

Disclosure: The indicated performance are historical for the period indicated. The rate of return does not take into account any fees or tax payable. Past performance may not be repeated.

Last Updated October 10, 2018

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