26

What prevents investors from buying high yield stocks and selling them as soon as their dividend is paid out?

I guess I am confused: If you know the yield and when the dividend will be paid out, why not buy a share an instant before the dividend is paid out and then sell it?

Do you have to have held the share for some amount of time to get the dividend? Is there too much volatility in the instant the dividend is paid out?

Matt
  • 1,027
  • 3
  • 10
  • 16
  • 3
    http://www.investopedia.com/exam-guide/cfa-level-1/corporate-finance/dividend-payment-procedures.asp – Tom Sun Oct 06 '15 at 18:44
  • 4
    So, let's assume you're dealing with someone else who has figured this out. She is going to buy a share that's about to pay $4 in dividends Monday and sell it Tuesday. Are you going to be willing to pay the same price on Monday as on Tuesday? Probably not, because you know you get $4 more if you buy it on Monday... Of course everyone else also does this calculation. – Joel Oct 07 '15 at 07:45
  • 3
    Short answer is that everyone in the market has thought of this at some point in their life. – Phil Oct 07 '15 at 16:44
  • @Joel people can and do take advantage of dividend dates, any answer suggesting otherwise is wrong. the market is not smart, and the market is not efficient. see my answer below – CQM Oct 08 '15 at 17:56
  • In fact, "don't buy right before the dividend is due, wait and buy after" is fairly common advice precisely because it's believed the market factors the dividend into the price of the stock. I have no opinion on whether it's good advice, but clearly the assumption is that there isn't much room for manipulation here. – keshlam Oct 09 '15 at 00:47
  • Share price is reduced by the dividend on the ex-div date. Here's an excerpt from Fidelity: "A stock price adjusts downward when a dividend is paid. The adjustment may not be easily observed amidst the daily price fluctuations of a typical stock, but the adjustment does happen. This adjustment is much more obvious when a company pays a "special dividend" (also known as a one-time dividend). When a company pays a special dividend to its shareholders, the stock price is immediately reduced. " – Bob Baerker Feb 20 '22 at 18:49

7 Answers7

39

The market is not stupid. It realises that a company is worth less after paying out dividends than before paying them. (It's obvious, since that company has just given out part of its earnings.)

So after a company pays out dividends, its stock price normally drops approximately by the amount paid.

Therefore if you buy, get the dividend, and immediately sell, under normal conditions you won't make any profit.

Zenadix
  • 1,058
  • 7
  • 10
38

You have to be the owner of record before the ex-dividend date, which is not the same day as the date the dividend is paid. This also implies that if you sell on or after the ex-dividend date, you'll still get the dividend, even if you no longer own the stock.

Keep in mind, also, that the quoted price of the stock (and on any open orders that are not specifically marked as "do not reduce") on its ex-dividend date is dropped by the amount of the dividend, first thing in the morning before trading starts. If you happen to be the first order of the day, before market forces cause the price to move, you'll end up with zero gain, since the dividend is built into the price, and you got the same value out of it -- the dividend in cash, and the remaining value in stock. As pointed out in the comments (Thanks @Brick), you'll still get a market price for your trade, but the price reduction will have had some impact on the first trade of the day.

Source: NYSE Rule 118.30

Also, remember that the dividend yield is expressed in annualized terms. So a 3% yield can only be fully realized by receiving all of the dividend payments made by the company for the year. You can, of course, forget about individual companies and just look for dividends to create your own effective yield over time. But, see the final point...

Finally, if you keep buying and selling just to play games with the dividends, you're going to pay far more in transaction fees than you will earn in dividends. And, depending on your individual circumstances, you may end up paying more in capital gains taxes.

Kent A.
  • 3,775
  • 17
  • 22
  • The second paragraph seems to be the answer to the original question. The other paragraphs, while relevant, do not directly answer the question. I suggest moving the second paragraph first and giving it more emphasis – stannius Oct 06 '15 at 19:14
  • 3
    Thanks @stannius. In my mind, each paragraph is an answer to the question of why people don't/can't time the dividends profitably. – Kent A. Oct 06 '15 at 19:16
  • 1
    Why would the price of the stock be dropped by the amount of the dividend on market open? That makes no sense to me. If an owner of a particular stock XYZ is putting it on the market for sale, the owner is not going to willingly just decide to offer buyers a friendly discount. Only lack of demand could result in a price drop, and there is no guarantee that a particular dividend already paid translates to lack of demand – public wireless Oct 06 '15 at 19:45
  • 4
    @publicwireless The description on pricing is wrong. The market chooses the price on the ex-date just like every other date. There's not automatic repricing by hand. It is true that the price tends to drop by about the same amount as the dividend though - through market forces, –  Oct 06 '15 at 20:00
  • 2
    @KentAnderson You are propagating a common misconception. You need to be the owner of record on the day before the ex-dividend date.. You can sell on the ex-date and still get the dividend. –  Oct 06 '15 at 20:02
  • @KentAnderson The difference between the settlement date and the dividend record date is due to the time it takes to settle. The ex-date is defined to the be the first day that the security trades without a dividend attached. That's the literal meaning of "ex-dividend." The other part about the quoting has nothing to do with the actual sale price, it has to do with adjustments to orders sitting in the queue. That may or may not impact the actual sale price depending on what other orders are entered in the morning. –  Oct 06 '15 at 20:13
  • @Brick, I get you now. I've edited the answer to be more precise and to credit you. Thanks! – Kent A. Oct 06 '15 at 20:19
  • 1
    @KentAnderson, I think you should add to the very end of your answer "or capital losses". –  Oct 06 '15 at 20:49
  • Is there any juice to buy the stock and write (either at the money or deep in the money) covered call on the same date +3 days in advance, and either collect the dividend and close out the stock and option positions (assuming either at net or at some slight volatile gain or loss); or get assigned, and walk away with the call premium? Does this have any evocative name as a call strategy? – user662852 Oct 06 '15 at 21:07
  • @user662852 Options are hard to get right, so you should know what you're doing, and you can't fall in love with your stocks. But, yes, you can generate an income writing covered calls. If you're good, it might start to look like a reliable income, but nothing is guaranteed. Derivative income may be taxed differently than capital gains in your locale, so be aware of that, too. – Kent A. Oct 07 '15 at 00:04
  • @user662852 yes, and this is the basis for my answer. This is the answer on how you game dividends, despite the consensus on this website. – CQM Oct 07 '15 at 07:07
  • 1
    "a 3% yield can only be fully realized by holding the stock for the whole year and receiving all of the dividend payments" It is my understanding that US companies often pay quarterly dividends. This isn't the case everywhere, though; for example, companies traded on the Swedish stock exchange (which is owned by Nasdaq since some years back) normally pay dividends only once per year. In such a case, in principle, you could get the effect the OP describes by holding the stock at the right moment. Of course, all the other caveats of the answers still apply. – user Oct 07 '15 at 09:40
  • 4
    @publicwireless Its not that they offer a friendly discount afterwards, its that the stock is literally worth more to investors before that date. Consider that, before that date, a stock is worth "one unit of stock + one dividend + future dividends." After the date, it is worth "one units of stock + future dividends." Investors will value the stock higher before the date explicitly because of what the OP is trying to do. If the stock does not raise in value as the ex-dividend date arrives, someone will abuse it, exactly like the OP wants, until that is balanced out by price increases. – Cort Ammon Oct 07 '15 at 16:56
  • @KentAnderson you haven't corrected the misconception Brick pointed out. It doesn't matter what happens during the 3 settlement days. You can buy at close the day before ex-dividend and sell at open on ex-dividend day and still get the dividend. A lot can happen in 17.5 hours but less than in 72. – gengren Oct 08 '15 at 08:11
  • @Brick Thanks for clarifying the pricing adjustment. I have seen written in multiple places that the market or exchange adjusts the price downward by the dividend once it is paid - as if it were some exact process that happens automatically by a brokerage or whatnot. It never made sense to me, and now it is clear that it is just people over simplifying - the reality is there is just a tendency for the price to drop due to market demands. – Travis Oct 08 '15 at 15:46
  • Would it be typical that any limit orders to purchase stock that may be pending would be written to expire at or before the moment when the purchaser would no longer be buying the immediately-upcoming dividend? If so, that would seem to pretty much eliminate any opportunity to "beat the market" selling stocks when their dividend pays out since price would "mechanically" drop in response to the dividend. – supercat Oct 08 '15 at 21:50
  • @Travis, it's true that the amount of the price adjustment might not be equal to the dividend amount. In the US, one reason is that, at least for individual taxpayers, dividends from recently acquired stocks are taxed more heavily (taxed like ordinary income) than capital gains or dividends on stocks held for more than a year. This leads to the common advice to "never buy a dividend", and a reduction in demand for the stock in the days immediately before the ex-dividend date. – The Photon Oct 08 '15 at 22:46
  • 1
    @Travis - Yes, the market or exchange adjusts the price downward by the exact amount of the dividend but that occurs on the ex-dividend date. Multiple commenters here have no clue that this occurs. Once trading resumes on the ex-div date, price change masks the reduction. Because of this, FINRA Rule 5330 (Adjustment of Orders) dictates that all open orders must be reduced by the exact amount of the dividend unless it is less than one cent or the trader marks the order "Do Not Reduce". – Bob Baerker Feb 20 '22 at 18:42
8

The ex-dividend date, prevents this, but people are still able to do this and this is an investment strategy.

There are some illiquid and immature markets where prices don't adjust.

In the options market people are able to find mispriced deep in the money calls to take advantage of the ex-dividend date. It is called dividend capture using covered calls.

CQM
  • 20,179
  • 6
  • 53
  • 93
  • 3
    Upvote for mentioning dividend capture using calls - rarely possible nowadays, but was once a good strategy. – ssaltman Oct 07 '15 at 15:34
  • 3
    @ssaltman thanks, consensus based sites really miss a lot of actual answers. When the consensus is "its priced in", "there is no free lunch", "the market is efficient", useful actionable information gets overlooked – CQM Oct 07 '15 at 16:42
  • It works better over in stack overflow where the number of professionals vs enthusiasts is higher, we kind of leak over into the other exchanges where we think we know what we're talking about. Now, my answer isn't wrong per say, at worst incomplete/overly simplistic, but a reasonable approximation overall. That's another reason the consensus works really well on the stackoverflow page, unlike economic things, there is a single discrete, easily testable answer to almost any valid question. – wedstrom Oct 07 '15 at 21:55
2

The rest of the market knows when the dividends are paid out, and that will be reflected naturally in the share price. That's why there is no way to consistently beat the market. Because the market is other human beings, who's sum of knowledge is greater than any individual.

Everything in the stock market boils down to this in one way or another.

wedstrom
  • 151
  • 4
2

Although the market discussion by other answers is correct, the tax structure of many developed nations (I am familiar with Canada in particular) offers a preferred tax rate for dividend income compared to taxable gains. Consequently, if your portfolio is large enough to make transaction fees a very small percentage rate, this is a viable investment strategy.

However, as the preferred tax rate for dividends typically will catch up to that for capital gains at some cut-off point, there is a natural limit on how much income can be favourably obtained in this way.

If you believe your portfolio might be large enough to benefit from this investment strategy, talk to a qualified investment advisor, broker, or tax consultant for the specifics for your tax jurisdiction.

Pieter Geerkens
  • 121
  • 3
0

I remember my Finance Professor at b-school answering this question:

The next moment the dividend is paid the total market cap is decreased by the amount paid

This makes sense as cash leaves company, the value of the company is decreased by exactly the same amount.

To summarise: the moment you paid dividend, the value of the stock is decreased by the same amount.

Sergey Bushmanov
  • 101
0

This investment strategy may have tax advantages. In some countries, income received from dividends is taxed as income, whereas profits on share trades are capital gains.

If you have already exceeded your tax-free income limit for the year, but not your capital gains tax allowance, it may be preferable to make a dealing profit rather than an investment income.

These arrangements are called a bed-and-breakfast.

Brian Hooper
  • 101
  • 1