Dividends are one of the nicest things you can get from owning ASX shares. As true passive income, dividends from a quality income share will hit your account every 6 months like clockwork. They don’t discriminate on age, gender, occupation, social status or nationality (except for tax reasons, of course). If you own the shares, you will get the dividends, period.
Whil this is a wonderful process in itself, dividends are not the end of the journey of wealth creation, they are only part of the means to the end.
Let me explain.
When you receive a dividend, you have 2 choices as to what to do with the money. Some (usually young and inexperienced) investors might treat the dividends as a windfall, ‘free money’ if you will. They will go out and buy themselves something special, a reward for their discipline in holding an income-producing asset.
That’s totally fine, of course. It’s a free market and a free country. Everyone’s money is perfectly entitled to be spent on anything its owner (legally) desires.
Dividend lessons from the past
But there’s another way to spend your dividends. I think it’s best illustrated by this quote from one of the best books on investing ever written: George S. Classon’s 1926 classic The Richest Man in Babylon. A young man is telling his older teacher about his first successful investment, upon which his teacher asks him what he is doing with the proceeds (or dividends if you will). He replies:
I do have a great feast with honey and fine wine and spiced cake. Also I have bought me a scarlet tunic.
Upon hearing this, the young lad’s teacher responds with the following:
You do eat the children of your savings. Then how do you expect them to work for you? And how can they have children that will also work for you? First get thee an army of golden slaves and then many a rich banquet may you enjoy without regret.
Pertinent advice indeed. Dividends are a powerful force that you should aim to harness over many, many years. Cycling your dividends back into more shares is one of the best ways you can turbocharge the compounding process. Pulling your dividends away from your investments only kneecaps your portfolio’s potential returns. So if you’re not reinvesting your dividends, I would strongly encourage you to reconsider, unless you have already retired of course. Some companies even offer the chance to do so automatically with a Dividend Reinvestment Plan (DRiP). As Classon so eloquently put it, you’re ‘eating the children of your savings’ otherwise and forgoing the chance of having your own ‘rich banquet’ as soon as possible.
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Motley Fool contributor Sebastian Bowen has no position in any of the stocks mentioned. The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.
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