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Increase income through dividend growth

(Special) - The appeal of dividends is not a mystery for most investors. They can offer a number of benefits such as a rising income over time, protection against inflation, long-term total returns and favorable tax rates.

Most investors look at the dividend yield when deciding to buy a stock. That's important because it tells you how much income you can expect to receive.

But according to Edward Jones, the growth of dividends is an equally important consideration, particularly if you are near or already in retirement.

Everyday living expenses such as groceries and gasoline rise over time and it's crucial to have investments than can provide a rising income to help you keep pace with or exceed the rate of inflation.

"Most people are looking for yield, which is great, but what really matters is whether companies regularly increase their dividends," says Audrey McFarlane, an adviser with Edward Jones in Vancouver.

A stock that increases its dividend seven per cent a year, for example, will nearly double its dividend in 10 years. If you invested $10,000 and the initial dividend was four per cent you would receive $400 in dividends in the first year and about $428 in the second year. By the 11th year the dividend payment would be about $787.

"That increase in income could help you outpace rising prices," McFarlane says. "While dividends can be increased, decreased or eliminated at any time, this hypothetical example shows why we think you should pay attention to the expected dividend growth and not just the yield."

Dividends are declared by a company's Board of Directors. They are paid out of the company's earnings and can be increased, decreased or eliminated at any time. Dividends are most often quoted in terms of the dollar amount each share receives (dividends per share) and also can be quoted in terms of a per cent of the current market price, which is referred to as dividend yield.

Dividends are usually paid out in cash or stock. Most secure, stable companies offer dividends to their stockholders. Their share prices may not move much, but the dividend attempts to compensate for this.

High-growth companies, however, rarely offer dividends because their profits are reinvested to help sustain higher than average growth.

Mutual funds pay out interest and dividend income received from the portfolio holdings as dividends to fund shareholders. In addition, realized capital gains from the portfolio's trading activities are generally paid out as a year-end dividend.

There are a number of key dates relating to stock dividends that investors should know about.

The declaration date is the date at which the Board of Directors approves the dividend payment and designates the payment date and record date.

The record date is the date which determines which stockholders are entitled to receive the dividend payment. You need to own the shares at the close of the record date in order to receive the dividend.

The ex-dividend date is the date on or after which the person who owns the security will be awarded the dividend payment. Because most stock trades are settled three business days after the trade is made, an individual must purchase the stock three days before the record date to qualify for the dividend.

And the payment date is the date on which the declared dividend is paid to all stockholders owning shares on the record date.

Equity investments, of course, are not without risk. They tend to fluctuate more than fixed income investments, could return substantially less than the original investment and dividends can be increased, decreased or eliminated at any time.

"We believe stocks, whether owned individually or in mutual funds, offer the best solution for investors seeking rising income," Edward Jones says. "While it may be tempting to choose the highest yielding stocks by default, we use an approach that evaluates a company's earnings and dividend growth potential, business model and dividend-payment track record. We have observed that dividend-paying companies with a solid track record of increasing their dividends have outperformed the highest yielding stocks over the past 10 years."

Talbot Boggs is a Toronto-based business communications professional who has worked with national news organizations, magazines and corporations in the finance, retail, manufacturing and other industrial sectors.

Copyright 2014 Talbot Boggs

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