The dividend capture strategy is fairly simple, but is not without its drawbacks. First let’s explain what it is. As you may know, there are many companies that pay dividends to stockholders. If you own shares in a stock on the day before the stock starts trading “ex-dividend” you are entitled to receive the dividends owed on that stock, even if you sell it once it starts trading “ex-dividend”. If you buy the shares on, or after the ex-dividend date, you do not get to collect the next dividend payment.
So the dividend capture strategy simply entails looking up the ex-dividend dates and purchasing stocks of various dividend-paying companies before the ex-dividend day and selling your holding once they start trading ex-dividend. Your goal is then to find another stock with a quickly approaching ex-dividend date, wash, rinse and repeat. Instead of getting four quarterly dividend payments, you might get eight quarterly dividend payments – or another way of saying this is that if you could find two stocks (as an example) that had different ex-dividend schedules and each had a 4% yield, your portfolio could potentially get an 8% yield by switching between these stocks on a regular basis.
Sounds great, doesn’t it?
Hold the phone. On thing about stocks that pay dividends is that there is a slight run up in price (on average) approaching the ex-dividend date and then a drop in price (on average) on the ex-dividend date approximately equivalent to the dividend per share amount. So you could be paying a premium to purchase the stock and selling at a lower price after the ex-dividend date. If the dividend payment only makes up the capital loss, what was the point?
Daily fluctuations can mask the run-up and drop in the share price, but over time it averages out. Many funds that have tried to run a dividend capture rotation strategy have not only failed to live up to the hype, they were especially clobbered in 2008 due the high allocation to financials.
Today’s post was brought to you by the letter Q, and the number 4. (God I miss watching Sesame Street!)