For young investors, the message from our trusted financial advisors is clear: start investing as soon as you can. It’s a message that many hear loud and clear and act upon. But what’s not as clear is what to invest in. In this article, I would like to explain why dividend stocks are a really good option for the young.
Supplementing your income
Dividend stocks can provide a steady income stream that can help us at any age. And if we choose the right dividend stocks, this income will be reliable, steady, and even increasing. Let’s take Fortis Inc. (TSX:FTS) as an example of an ideal dividend stock to own.
Fortis is a $29 billion utility giant with a diverse geographic footprint and asset mix. It’s also the Canadian dividend stock with the most impressive history of dividend growth. In fact, Fortis has a 49-year history of dividend increases. That’s a really long time! Furthermore, the stock has also performed exceptionally well in the long term, as we can see in the graph below.
In the last 28 years, Fortis’s dividend has grown at a compound annual growth rate of 6.2% from $0.42 per share to the current $2.26 per share. It’s almost 440% higher today than it was back in 1995. That’s real, steady growth that young investors could certainly benefit from. It could help save for a house, a car, and, of course, build wealth. And given that young investors have so much time ahead, the compound returns can really accelerate over time.
Make use of your TFSA
The Tax-Free Savings Account, or TFSA, is an investment vehicle that shelters all investment income from taxation. The TFSA currently has a maximum contribution limit of $88,000. The tax savings can really add up over the years and set you up on the right path to wealth creation.
The TFSA is a great place to hold dividend stocks. Think of it as maximizing your supplemental income. So, let’s go back to our Canadian dividend stock example, Fortis. If you invest just over $12,200 into Fortis stock, you would own 200 shares. This would translate into $452 of annual dividend income. Back in 1995, the dividend income on 200 Fortis shares was a mere $84.
If you use this investment to make use of your TFSA, this dividend income is ever more valuable, as it would skip the taxman and be 100% yours. These tax savings would then also become subject to the laws of compounding.
Dividends and compounding are powerful
Dividends can be close to a sure thing if you buy the right dividend stocks, like Fortis. This cash in your pocket has low risk due to market fluctuations. You can then take it and use it however you please. The money is not tied up or subject to any conditions. There’s certainly value in getting the cash from your dividend payment. It removes risk and allows you to use this in pursuit of compounding.
Compounding is a powerful investment concept that basically involves “earning returns on both your original investment and on returns you received.” For this to play out, you would need to reinvest your dividend income into the investment of your choice. Whether that’s a dividend stock or a bond, this concept holds true. Over time, this compounding effect is powerful. Young investors, you have time on your side. Use it to your advantage.
