A market correction can be scary for investors who see the values of their portfolios decline. Pullbacks in top TSX dividend stocks, however, provide opportunities to add to positions or start new holdings and get attractive yields with a shot at decent capital gains on the rebound.
One popular investing strategy for building long-term wealth involves buying high-quality dividend stocks and using the distributions to acquire new shares.
Power of compounding
Each time a dividend is used to buy more shares, the next dividend payout is larger. This, in turn, can potentially buy more shares, depending on the price move of the stock, on the next dividend distribution. Over time, the snowball effect can be significant. That is particularly the case with stocks that raise their dividends steadily.
Markets can go through ups and downs, but the share prices of top dividend-growth stocks tend to drift higher over time, adding to the total returns.
What is a DRIP?
Companies often give investors a discount on the price of shares that are purchased using dividends. The reduction can be as high as 5% in some cases but is usually in the 2% range, giving the investor an automatic boost on their return. The program is referred to as a dividend-reinvestment program (DRIP).
Investors can normally instruct their online brokerage firms to sign up for the DRIP programs that are available on their holdings. There is no transaction charge for the purchase of the new shares through the DRIP. With the brokerage accounts, however, complete shares often have to be acquired, so some of the cash from the dividend normally goes into the trading account. This is different from stock that might be part of an employee stock ownership plan (ESOP), for example, where dividends are often allowed to buy partial shares under the DRIP.
Companies offer DRIP incentives to keep more cash inside the firm. The money can be used to strengthen the balance sheet or invest in growth initiatives.
Fortis
Fortis (TSX:FTS) is a good example of a stock that has helped make some long-term investors quite rich. The utility has increased its dividend annually for the past 50 years and intends to extend the streak through at least 2028 with annual distribution increases of 4-6%.
Fortis grows through capital projects and acquisitions. The current $25 billion capital program is expected to significantly increase the rate base over five years. As new assets go into service, there should be a rise in revenue and cash flow to support the planned dividend hikes.
Fortis gets nearly all of its revenue from rate-regulated businesses, including power-generation facilities, electric transmission networks, and natural gas distribution utilities. These assets provide essential services that drive revenue in all economic conditions.
Fortis stock trades near $54.50 at the time of writing compared to more than $64 at the peak last year.
The share price bounced in the past two weeks as bargain hunters bought the stock, but FTS still looks attractive at the current level. Fortis offers a 2% discount under its DRIP program. At the time of writing, the stock provides a 4.3% dividend yield.
A $10,000 investment in Fortis stock 25 years ago would be worth about $150,000 today with the dividends reinvested. Buying Fortis on big dips has historically proven to be a rewarding strategy.
The bottom line on investing for retirement
Fortis is just one example of a top Canadian dividend stock that has delivered substantial long-term returns for investors. There is no guarantee the next 25 years will bring the same results. Still, the strategy of buying quality dividend-growth stocks and using the distributions to acquire new shares is a proven one for helping investors build retirement wealth.
