Dividends make the difference
Money for nothing
In yesterday’s post, I covered the S&P 500 Total Return Index:
Since I stated that the difference between these two indexes was driven by dividends, I wanted to expand upon that a little more and derive exactly what that dividend yield looks like. A really quick way to do this is to transform both indexes from nominal levels to a percentage-change basis. Here is what a yearly time frame looks like:
The surprising result here is that the two indexes have such similar behavior. One would think, at first glance, that the extreme divergence between the two time series in the first chart would mean that there is a big difference in underlying performance. But, that’s clearly not the case. Both indexes follow the same ups and downs.
If you look really closely though, you’ll see that the yearly changes for the S&P 500 Total Return Index are consistently above the regular S&P 500. Taking a simple subtraction between the two lines gives us this:
There it is! The dividend yield for the S&P 500. While dividends are not yielding as much as they were in the past, a 2% rate is still really good. Think of it like free money just for being invested in the stock market. If you can stomach the volatility, that’s a better rate than you’ll find in most bank accounts right now. No wonder people chase high dividend-paying stocks - it’s almost money for nothing.
And, this simple little line shows the power of reinvesting those dividends. The huge difference between the two indexes is driven completely by this consistent yield. It really shows the power of compounding over time.
On the other hand, one can imagine how much a small negative yield would hurt long-term gains. That’s the biggest risk when it comes to any sort of fees. Even if there is an amazing investment strategy or fund, if the maintenance costs are too high, it will crush growth.
In either case, it’s easy to overlook something as small as a percent here or there, especially when it is almost impossible to see in the second chart. But awareness is half the battle. The other half is investing and letting it sit for a long time so that little difference can snowball into a huge winner.
The key to it all? Patience. And, that’s the hardest part!