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A:

Many years ago, unscrupulous brokers would use the same logic on their clients as a sleazy sales tactic. These brokers would tell a customer to purchase shares in a particular investment that would supposedly offer profits from an upcoming dividend.

In theory this may seem like a sound investment strategy, but it is nothing more than an illegal marketing scheme. For example, if Company A is trading at $20 a share and is about to offer a $1 dividend and you hurry to buy the stock before the ex-dividend date, you would receive the dividend and make an easy 5% return.

In actuality, however, the company's stock price would decrease on the ex-dividend date by about the same amount of the dividend to eliminate this form of arbitrage. So, if you purchased stock before the ex-dividend date you would get the $1 cash dividend, but this would be offset by the simultaneous $1 drop in the stock price. Thus, buying a stock before a dividend is paid and selling after it is received has absolutely no value except a partial return of the capital invested in the stock in the first place.

To make things worse, dividends create a tax liability, meaning you'll have to claim the dividends as taxable income on the following year's income tax return. Waiting to purchase the stock until after the dividend payment may be a better strategy because it allows you to purchase the stock at a lower price without incurring taxes.

To read more on dividend dates, see our article Declaration, Ex-dividend, and Record Date Defined.

RELATED FAQS
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  2. With an ex-dividend, why does the dividend go to the seller rather than the buyer?

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