Which option is better on a mutual fund: a growth option or a dividend reinvestment option?

By Investopedia Staff AAA
A:

When selecting a mutual fund, an investor has to make an almost endless number of choices. Among the more confusing decisions to be made is the choice between a fund with a growth option and a fund with a dividend reinvestment option. Each type of fund has its advantages and disadvantages, and deciding which is a better fit will depend on your individual needs and circumstances as an investor.

The growth option on a mutual fund means that an investor in the fund will not receive any dividends that may be paid out by the stocks in the mutual fund. Some shares pay regular dividends, but by selecting a growth option, the mutual fund holder is allowing the fund company to reinvest the money it would otherwise pay out to the investor in the form of a dividend. This money increases the net asset value (NAV) of the mutual fund. The growth option is not a good one for the investor who wishes to receive regular cash payouts from his/her investments. However, it's a way for the investor to maximize the fund's NAV and, upon sale of the mutual funds, realize a higher capital gain on the same number of shares he/she originally purchased - because all the dividends that would have been paid out have been used by the fund company to invest in more stocks and grow clients' money. In this case, the fundholder does not receive more shares, but his/her shares of the fund increase in value.

The dividend reinvestment option is quite different. Dividends that would otherwise be paid out to investors in the fund are used to purchase more shares in the fund. Again, cash is not paid out to the investor when dividends are paid on the stocks that comprise the fund. Instead, cash is automatically used by the fund's administrators to buy more fund units on behalf of the investors and transfer them to individual investors' accounts. Fundholders realize a capital gain upon the sale of their units in the fund, which in the case of the dividend reinvestment option will probably be more fund units than they started with.

No single mutual fund is perfect for every investor; that's why there are so many out there with so many different options. When investing in a mutual fund, it's best to examine all of the particulars of the fund, to avoid investing in a fund that doesn't suit your individual requirements for growth or cash payout.

RELATED FAQS

  1. How is revenue related to retained earnings?

    Learn what business revenue is and how it relates to retained earnings. See how accountants calculate these key figures and ...
  2. What are the best ways to lower my investing fees?

    Lower your investing fees by buying index funds or ETFs, choosing the right mutual fund share class, evaluating breakpoints ...
  3. What is the difference between a 401(k) plan and a 403(b) plan?

    Administered by for-profit, private companies, 401(k) plans are more common than the nonprofit or government-sponsored 4 ...
  4. What is the difference between preferred stock and common stock?

    Preferred and common stocks are different in two key aspects. First, preferred stockholders have a greater claim to a company's ...
RELATED TERMS
  1. Sucker Yield

    When an investor has essentially risked all of his capital for ...
  2. Multibank Holding Company

    A company that owns or controls two or more banks. Mutlibank ...
  3. Bear Fund

    A mutual fund designed to provide higher returns when the market ...
  4. Short Put

    A type of strategy regarding a put option, which is a contract ...
  5. Ulcer Index - UI

    An indicator developed by Peter G. Martin and Byron B. McCann ...
  6. Wingspread

    To maximize potential returns for certain levels of risk (while ...
comments powered by Disqus
Related Articles
  1. Pick the Right Brokerage Account for ...
    Options & Futures

    Pick the Right Brokerage Account for ...

  2. Will ETFs Eventually Replace Mutual ...
    Mutual Funds & ETFs

    Will ETFs Eventually Replace Mutual ...

  3. What You Need To Know About Preferred ...
    Trading Strategies

    What You Need To Know About Preferred ...

  4. Investor, Know Thyself: Choose A Stock ...
    Investing Basics

    Investor, Know Thyself: Choose A Stock ...

  5. The Top Technical Indicators For Options ...
    Options & Futures

    The Top Technical Indicators For Options ...

Trading Center