A:

To understand the differences in volatility commonly seen in the stock market, we first need to take a clear look at exactly what a dividend-paying stock is and is not.

Public companies and their boards typically start issuing regular dividend payments to common shareholders once their companies have reached a significant size and level of stability. Often, young, fast-growing companies prefer not to pay dividends, opting instead to re-invest their retained earnings into their business operations, compounding their growth and thus the book value of their shares over time. However, once a company does decide to start paying a specified amount of money to shareholders in the form of regular cash dividends, its stock usually trades with a little less price volatility in the market. (For further reading, see How And Why Do Companies Pay Dividends?)

There are a couple of key reasons for this, the first being that the regular dividend payments received by the company's shareholders represent consistent cash flows received from their investment in the stock. For example, suppose you were considering investing in two hypothetical widget companies, ABC Corp. and XYZ Inc. Let's say that ABC pays out a regular, quarterly dividend of $0.10 per share, while XYZ never pays out dividends. Both stocks trade at $10 per share. Suppose that whichever stock you choose to invest in, you don't really have a great idea what the share price will be in one year's time. ABC could be trading at $5 and XYZ at $20 or vice versa - you just don't know. However, one thing you do know is that if you invest in ABC Corp., you'll very likely receive $0.40 in cash dividends over the year for each $10 share you purchase today. The same cannot be said about XYZ Inc.; therefore, this makes ABC a little safer.

Second, companies know that the stock market reacts very poorly to stocks that reduce their dividend payments. Thus, once a company begins paying a regular dividend amount, it will generally do everything it reasonably can to continue paying that dividend. This gives investors high confidence that the dividend payments will continue indefinitely at the same amount or greater, and thus the shares of dividend-paying stocks tend to be viewed as quasi-bond instruments: they pay a regular cash flow that is backed by the entire financial strength of the company, but they also allow investors to participate in any share price gains the stock may enjoy.

Given both of these factors, the market tends to be less likely to drive down the share prices of stocks that pay high dividends than those of companies that pay no dividends. This means that stocks that pay sizable, regular dividends usually trade in the market with less volatility than stocks that don't pay dividends. Of course, this is not a hard and fast rule, but on average it holds true.

To learn more, check out The Power Of Dividend Growth, The Importance Of Dividends and How Dividends Work For Investors.

RELATED FAQS
  1. Can dividends be paid out monthly?

    Find out if stocks can pay dividends monthly, and learn about the types of companies most likely to do so and how monthly ... Read Answer >>
  2. Which is better a cash dividend or a stock dividend?

    The purpose of dividends is to return wealth back to the shareholders of a company. There are two main types of dividends: ... Read Answer >>
  3. How do dividends affect retained earnings?

    Find out how distribution of dividends affects a company's retained earnings, including the difference between cash dividends ... Read Answer >>
  4. Why do some companies pay a dividend, while other companies do not?

    Dividends are corporate earnings that companies pass on to their shareholders. There are a number of reasons why a corporation ... Read Answer >>
  5. Are dividends considered an asset?

    Find out why dividends are considered an asset for investors but a liability for the company that issued the stock, and learn ... Read Answer >>
  6. Where exactly do dividends come from?

    Learn about sources of cash dividend, such as operational, financing and investing cash flows, as well as issuances of new ... Read Answer >>
Related Articles
  1. Markets

    Due Diligence On Dividends

    Understanding dividends and how they work will help you become a more informed and successful investor.
  2. Investing Basics

    How Dividends Work For Investors

    Find out how a company can put its profits directly into your hands.
  3. Investing Basics

    Don't Take Dividends For Granted

    Companies have been paying dividends to their shareholders since the 1600s and have given investors good reason to hold onto their shares for long time periods. For many investors, dividends ...
  4. Investing Basics

    The Importance of Dividends in Your Portfolio

    Learn some of the primary reasons why dividends constitute a critical factor in the overall performance of a stock investor's portfolio.
  5. Investing

    The 3 Biggest Misconceptions of Dividend Stocks

    To find the best dividend stocks, focus on total return, not yield.
  6. Investing Basics

    Reinvesting Dividends Pays in the Long Run

    Find out why dividend reinvestment is one of the easiest ways to grow wealth, including how this tactic can increase your investment income over time.
  7. Stock Analysis

    5-Star Dividend Stocks

    Stocks that consistently pay sizable dividends offer important advantages to individual investors. Here are five worth a look.
  8. Stock Analysis

    Stocks Pay Huge Dividends

    Stocks that consistently pay sizable dividends offer important advantages to individual investors. Here are five worth a look.
  9. Investing Basics

    Best Places to Find High-Dividend Yield Stocks

    Learn about the advantages of stocks with good dividend yields, such as income, stocks in defensive sectors and strong-performing companies.
  10. Investing News

    Understanding How Mutual Funds Pay Dividends

    The process by which mutual fund dividends are calculated, distributed and reported is fairly straightforward in most cases. Here's a look.
RELATED TERMS
  1. Dividend

    A distribution of a portion of a company's earnings, decided ...
  2. Forward Dividend Yield

    An estimation of a year's dividend expressed as a percentage ...
  3. Indicated Yield

    The dividend yield that a share of stock would return based on ...
  4. Accumulating Shares

    Common stock given to current shareholders of a company in place ...
  5. Current Dividend Preference

    A safety feature of preferred shares, whereby holders of such ...
  6. Indicated Dividend

    The total dividends that would be paid on a share of stock throughout ...
Hot Definitions
  1. MACD Technical Indicator

    Moving Average Convergence Divergence (or MACD) is a trend-following momentum indicator that shows the relationship between ...
  2. Over-The-Counter - OTC

    Over-The-Counter (or OTC) is a security traded in some context other than on a formal exchange such as the NYSE, TSX, AMEX, ...
  3. Quarter - Q1, Q2, Q3, Q4

    A three-month period on a financial calendar that acts as a basis for the reporting of earnings and the paying of dividends.
  4. Weighted Average Cost Of Capital - WACC

    Weighted average cost of capital (WACC) is a calculation of a firm's cost of capital in which each category of capital is ...
  5. Basis Point (BPS)

    A unit that is equal to 1/100th of 1%, and is used to denote the change in a financial instrument. The basis point is commonly ...
  6. Sharing Economy

    An economic model in which individuals are able to borrow or rent assets owned by someone else.
Trading Center