A dividend is a payment of a percentage of a company's profits paid out to a group of members in the form of cash, stock shares, or any other type of property. It's a portion of profits for the company and is a reward for its shareholders. Dividends are a key factor in stock ownership. Long-term investors want to hold stocks for a long time, and dividends could help boost their income. Dividends could be an indicator that a company is performing very well. A stock's value could rise right when a dividend announcement is made.
But, at the time of the date of the dividend ex-date, the stock's value will undoubtedly decrease. The stock price will drop by approximately equal to the amount that was paid in dividends. This adjustment has taken place to reflect the income that was taken out of the company's books.
The loss of value will not last forever, but it is a fact. After the dividend has been paid, the stock and company will continue to grow, whether for good or bad. Stockholders who hold long-term shares are usually not affected. The dividend they received compensates for the decrease in the value of their shares. Dividends are tax deductible. The next year's tax return must be reported as income tax-deductible.
Day Trading and Dividend Capture
Day trading is the process of making many trades in one day to gain profit from intraday price movement. Day traders use the dividend capture strategy or a variant that allows them to earn quick cash by holding shares only enough to collect dividends that the stock gives.
The strategy demands the ability to quickly move between the trade to earn profits and then close the trade to allow funds to be ready for the next trade. Since day traders try to make money from tiny, quick-moving price fluctuations, it is difficult to make huge amounts using this strategy without having large amounts of capital. The potential gain from each trade is usually small.
How the Strategy Works
One of the reasons people choose the dividend capture method is its simplicity. No complicated fundamental analyses or charts are needed. In essence, an investor trader buys shares of the stock before the date of ex-dividend and then sells the shares at the time of the ex-dividend or any point after that. If the price of shares falls after the announcement of dividends, an investor can wait until the price rises to its previous value. Investors are not required to keep the shares until the date of payment to be eligible for the dividend payout.
Theoretically, the dividend capture strategy should not perform. If markets were operating with incredibly precise logic and that dividend would be precisely represented in the share price up to the date of ex-dividend, the stock price will fall exactly by the dividend amount. Because markets don't operate with the same mathematical precision, it isn't always in this manner.
Most of the time, traders can earn an enormous portion of the dividend even though they sell the shares at a modest loss on the day of the ex-dividend. An example of this would be the stock that trades with a price of $20 per share and paying a dividend of $1 and then falling in value after the date of ex-dividend only to $19.50 that, allowing the trader to make a net profit of $0.50 which is enough to capture half of the dividend profits.
Making use of Options Contracts
A variant of the strategy of dividend capture employed by investors with more experience is to try to collect more of the dividend by purchasing or selling options that will benefit from the decline of prices of stocks at the time of the expiration. This dividend-capture strategy provides endless opportunities for profit as there is, at a minimum, one company that pays dividends nearly daily. A huge holding in one stock can be carried over frequently into new positions while capturing dividends in each step.
With a significant beginning capital expense, investors can benefit from both high and low yields since results from successful executions are often compounded. However, it is generally recommended to concentrate on mid-yielding (3 percent) large-cap companies to reduce the risk of smaller firms while still achieving a significant payoff.
