direct stock purchase plans

The Easiest Way to Invest in the World's Biggest Companies

Philip Brewer — Mon, 28 Nov 2016 10:00:06 +0000

Here's a classic way to build up an investment portfolio: Regularly invest modest amounts of money in growing companies. Do that for a few decades, reinvesting the dividends as you go along, and — if you've picked the right companies — you will end up with sizable holdings. Perhaps even real wealth.

If you want a diversified portfolio, and you really should, there are a lot of cheap ways to get one. Any number of mutual funds will let you open an account with a modest initial deposit, and the minimums for subsequent investments are quite reasonable for even a small saver.

But what if you don't like someone else's idea of a diversified portfolio? What if you have some strong opinions about which companies are worth investing in, and out of the thousands of mutual funds available, none of them focuses on those companies? What if you really want to invest in specific companies picked by you?

One option would be to open an account at an online brokerage and make your purchases there. That will work great if you have ample money to invest. But what if your free cash for investing is small?

Even small investments can add up to a lot of money, if you've got both time and a good annual return working for you. If the companies you pick can average an 8% annual return for 40 years, just $20 a week will build to a fortune of over $300,000.

But the online brokerage solution is no good for investments that small, because of commissions. Even the cheap online brokers charge $5 on a trade, and plenty of them charge closer to $10 — there's half your investment gone right there.

Fortunately, there's an alternative that's tailor-made for this situation: Direct Stock Purchase Plans, or DSPPs.

Direct Stock Purchase Plans

Back in my day they were called Dividend Reinvestment Plans, or DRIPs, but they're basically the same thing: Big companies hire somebody — usually the stock transfer agent — to create and manage accounts that let individuals buy small quantities of stock — usually for no commission — and reinvest their dividends.

It's a win for the investor, because they get to invest in the stock for free. It's a win for company, because they get a dependable stream of new capital, and a stable base of shareholders who are aren't likely to sell out at the first sign of bad news or to go chasing after the next hot trend.

Besides charging no commissions, they also solve another problem for the very small investor: the cost of whole shares. Suppose you want to invest $20 out of every paycheck, but the stock you want to buy is $63 a share. It would take you four paychecks to save up enough money to buy one share. With a DSPP you'd get 0.317 shares with the first contribution, and a similar amount each paycheck after.

Things to Know

There are a few caveats.

First, only certain companies go to the trouble and expense of offering a DSPP. Happily, as suggested by the title of this article, they're mostly the largest companies on the U.S. stock exchanges. The web has plenty of lists of companies that offer DSPPs or DRIPs. Alternatively, if you know which company you're interested in, go to the company website and look for a link like "investors" or "shareholder information." If there's a direct investment program, you'll find the information about it there.

Second, buying stocks this way — through numerous small purchases — may make figuring your taxes a lot more complicated in the years that you sell. (This may be less true than it used to be, now that brokers are required to track your cost basis for you.)

Third, be aware that these sort of plans don't offer the services of a broker. They are basically just for accumulating shares in one specific company. They will probably let you shift from reinvesting your dividends to receiving them in cash, something you might want to do when you retire and will be living off your investments. They usually let you take delivery of your stock (if at some point you want to transfer it to a regular broker) or sell it (if you have found a better investment, or need the money to live on). They won't let you borrow against it, they won't have cash management tools, they won't be interested in holding any other shares you own, or selling you bonds, or advising you on other investment opportunities.

Fourth, investing in just one company won't give you a diversified investment portfolio. You'd need a dozen carefully chosen companies to get something reasonably diversified. Of course, as an adjunct to some well-diversified mutual funds, a DSPP in a company that does very well, can provide a considerable boost to your total return, without completely unbalancing your portfolio.

History

Plans like these used to be a much bigger deal. Especially before 1975 (when minimum commissions were abolished), but continuing right up until Internet brokers got big in the 1990s, the costs to trade stocks were high enough that it was completely impractical for a small investor to gradually accumulate shares in a growing company. Investing in individual stocks was a game only for the wealthy.

It's generally not important these days, but there's a technical difference between DRIPs and DSPPs. Back in the day DRIPs usually required that you purchase your first share from a broker (or acquire it some other way, such as by inheriting it). Then you could reinvest dividends, or even make additional cash purchases of shares, but that first share had to come first.

Starting in the mid-1990s, the SEC relaxed some rules, making it practical for companies to offer DSPPs that could sell you your first share, as well as shares beyond that.

It's kind of a technical point, but that's the difference between the two kinds of plan.

Small Versus Tiny Investors

With internet brokers, even a fairly small investor can buy and sell stocks. You need a certain amount of capital — a few thousand dollars — to make it possible to buy a round lot of 100 shares and to make the $5 or $10 commission a small enough percentage of your total investment.

But if you're a tiny investor — if your investable capital is only a few hundred dollars — something like a DSPP makes it possible for even the smallest investors to accumulate sizable portfolios through frequent, modest investments made over a long period of time.

It's what they were designed for.

This article is from Philip Brewer of Wise Bread, an award-winning personal finance and credit card comparison website. Read more great articles from Wise Bread:

Slow DRIP into investing

Julie Rains — Tue, 19 Jun 2007 13:45:55 +0000

My first-ever individual stock holding was a Duke Power (now Duke Energy) share that I acquired through its Dividend Reinvestment Plan or DRIP. I don’t recall every detail but at the time, Duke Power was my utility company, sent me a bill every month, and enclosed a notice about its DRIP, which was available to its customers.

Signing up and becoming a shareholder was easy. Presumably, I requested, received, and read a prospectus so that I could understand the risks of owning this particular stock. Then, I filled out a form and sent checks of $25 or $50 every month or so. The company sent me statements, confirming receipt of my checks and showing me the value of my holdings.

Just a side note: at the time of my investment in the mid-80s, Duke Power was a public utility in a regulated industry so profits were nearly guaranteed and dividends were steady. Jumps in the stock value or sudden declines were unlikely in such a controlled environment. Duke Power has since morphed into Duke Energy, “a diversified energy company with gas and electric businesses, both regulated and unregulated, and an affiliated real estate company.” http://www.duke-energy.com/about-us/businesses.asp, June 17, 2007. Today, there is more risk associated with owning the stock because its businesses are no longer all regulated.

With a DRIP, you can accumulate shares by making periodic purchases and authorizing the reinvestment of dividends. For example, Stock A is selling for $25 and the company declares a dividend of $.05 per share. If you have 100 shares of Stock A, you will receive a dividend of $5, which is then reinvested automatically with the purchase of .20 shares. It doesn’t seem like much but, over time, your account grows in value if you reinvest the dividends rather than spend them on something else. (A note about taxes: if the shares are held in a regular taxable account, you will have to pay taxes on the dividends, whether you reinvest the dividends or not.)

The main catch to this program is that you can not control the exact price you pay for the stock. You send in your money (either via regular mail or electronically) and the stock is purchased on your behalf, typically at the market price on a day designated by the company or its agent. For example, if you send money on January 15, the stock may be purchased on January 30 for whatever the market price was on that day. If the stock price was $35 on Jan. 15 and $45 on Jan. 30 then the stock would cost $45. If you sent $50, then you will receive 1.11 shares ($50 payment/$45 per share).

I started my DRIP in the pre-Internet, pre-discount brokerage, and pre-ShareBuilder days when these plans were especially very attractive compared to full-service brokerage accounts. The fees for starting a plan, purchasing shares, reinvesting dividends, receiving statements, selling shares, maintaining an account, and closing an account were zero to nominal. The advent of ShareBuilder (to be covered in another post) and online brokerage services (also, more later) make DRIPs less attractive than 20 or so years ago. Still, these plans offer an easy, simple way to get started in investing.

To find out if a company has a DRIP, do a search using the company name and investor relations; then starting looking for Shareholder Services, Investor FAQs, DRIPs, Direct Stock Purchase plans, etc. I searched for Duke Energy, Lowe’s Companies, and AT&T as well as Amazon, Target, and Starbucks and quickly found whether these companies pay dividends and/or whether they offer DRIPs or similar plans. Following the links, I also found pages that listed fees associated with transactions and some way of actually starting an account. Here is what I found:

Duke Energy

Lowe’s Companies

AT&T

Amazon.com
Amazon.com does not pay dividends or have a Direct Stock Purchase Plan (similar to the DRIP but sans the dividend reinvestment component).

Starbucks
You can only buy Starbucks through a stockbroker or brokerage firm

Target
Target offers a Direct Investment Program and you can purchase stock through a transfer agent

Please know that I am not endorsing or recommending the purchase of any of these stocks just using them as examples. I mentioned them because they are household names in my part of the world and investing in companies you already know about is often a good way to get started in building wealth. As always, read the prospectus before investing.

This article is from Julie Rains of Wise Bread, an award-winning personal finance and credit card comparison website. Read more great articles from Wise Bread: