The Simply Investing Dividend Podcast

EP48: Term Deposits vs Dividend Stocks

September 06, 2023 Kanwal Sarai Season 2 Episode 48
The Simply Investing Dividend Podcast
EP48: Term Deposits vs Dividend Stocks
Show Notes Transcript Chapter Markers

Ever wonder how term deposits stack up against dividend stocks? In this episode, I dig deep into these two investment options. I take a close look at term deposits, exploring the current interest rates and how they operate. Then, I'll provide an overview of dividends and dividend stocks and compare them against term deposits.

What I'll share with you in this episode:
- What is a term deposit?
- Current interest rates for term deposits
- What are dividends?
- What are dividend stocks?
- Term deposits versus dividend stocks
- How an investment in one dividend stock grew by over 296%

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Speaker 1:

In this episode I compare term deposits to dividend stocks. Keep listening to find out which investment is going to be better for you. Hi, my name is Kanwal Sarai and welcome to the Simply Investing Dividend Podcast. In this episode, I'm going to cover the following five topics First, what is a term deposit? Then we're going to look at some current interest rates that are being offered with term deposits. Then we're going to look at what are dividends. After that we're going to look at what are dividend stocks and our final topic. In this episode I am going to compare term deposits to dividend stocks. So let's get started with our very first topic what is a term deposit? Term deposits are low risk investments that guarantee the return of your principal plus interest when you agree to lock up your funds for a set amount of time. Now let's take a look at this example. If you were to invest, for example, $1,000 for five years in a term deposit, after the five years you would get back your $1,000 plus any interest earned over those five years. Now keep in mind your money is then locked in for the duration of that term. Now, term deposits go by different names. In some places they refer to them as certificates of deposits, so CDs. In other places they call them time deposits and in Canada they refer to them as guaranteed investment certificates, gics. Now, all of these are insured, again based on which country you're in. In the US, they're insured by the FDIC or the NCUA. In Canada, they're insured by the federal government, and that's why, at the beginning of this episode, we said that term deposits are low risk because they are insured and guaranteed that you will get your principal back. Now, of course, there are limits to the maximum amount of money that is going to be insured, and you can certainly you should confirm that with your institution or bank where you would be buying the term deposits. So you want to make sure you don't exceed those limits. As long as you're within those limits, then the money that you put in there is guaranteed or insured for the life of that deposit. Now let's take a look at some current interest rates for term deposits. So first we're going to look at a couple of options here. You can see them on the screen in the US. So what I've shown you here are some of the five year interest rates for term deposits. So we can see here that some banks and some institutions are offering rates of 4.86%, 4.77%, 4.5%, and you can see all of the rates up on the screen here. So here next let's take a look at some examples in Canada. So again, this is the interest rate for a five year term deposit, and the rates are a little bit higher. Some of the institutions are offering 5.2%, 5%, 5.1% and we also have 4.7%. We also have a 3.5% as well. So what I've done here is I've taken the average. So if we take the average interest rate, you'll see that it is 4.71%, and that's the rate we're going to use later on in this episode when we compare term deposits to dividend stocks. Let's move on to our next topic what are dividends? So dividends are nothing more than the company sharing its profits with you, the shareholder. Now, as a shareholder, you are part owner of the company and therefore you're entitled to share in the profits of that company. So the profits come to you in the form of dividends. So it's a fancy name for what they give to the amount of money that's coming into your trading account. So let's take a look at this example. If a company is paying a dividend of $1 per share now this is an annual dividend and you own a thousand shares, you will receive $1,000 every year for as long as you own those shares and as long as the company continues to pay the dividend. Now you can spend that money if you wish, or you can reinvest it into other stocks that are paying dividends. So the dividends are deposited electronically as cash into your trading account. Now keep in mind here, as long as we're talking about quality companies that have a solid history of paying dividends, you will receive those dividends consistently over the long term, regardless of what happens to stock prices. So stock prices go up and down all the time. If you were to buy a dividend stock today at $20 a share and tomorrow the price dropped to $10, well, the amount of shares you own hasn't changed, and so the dividend is always paid based on the number of shares that you own, not the price that the shares are trading at today or in the future. So once you own those shares, the price can go up. The stock price can go up, stock price can come down. The dividends that you receive will remain the same and hopefully, over time, the company will increase the dividend that it gives to the shareholders. So now let's take a look at what are dividend stocks. Basically, they're stocks in companies that are paying dividends to shareholders and companies that don't pay dividends. Well then, that stock is a non-dividend paying stock. So let's take a look at this example here. As of this recording, if we take a look at Coca-Cola, you can see that the forward annual dividend is $1.84 a share. So that's how much dividend Coca-Cola is going to be paying its shareholders this year. If we take a look at another example Walmart again, you can see that the forward annual dividend is $2.28. Now here's an example of a company that doesn't pay a dividend. So we're looking at Google Alphabet is the name of the company and you can see that the forward annual dividend is $2. It says on the screen and a Not available, not applicable. So this is a company, as of this recording, that has never paid a dividend and, again, as of this recording today, it doesn't look like that they're going to be paying a dividend anytime soon. So our focus as dividend investors is to look at companies that are paying dividends. Why? Because we want to get paid for owning those shares. Because, without the dividend, you're only hoping for the stock price to keep going up, up and up and you're hoping that when it comes time to sell the shares, that the stock price is going to be up. But hope is not going to cover your living expenses. But dividends can cover your living expenses. So dividends bring consistency and compatibility to your portfolio because they provide you with a consistent source of income. Okay, now let's move on to our last topic in this episode term deposits versus dividend stocks. So here's a slide that I showed you earlier and you can see up on the screen that the average average interest five-year interest rate for term deposits on the screen here is 4.71%. So that's what we're going to use in this example right now. So let's say you had $10,000 to invest and you put that in a term deposit. So you can see that the interest rate, as I mentioned, is 4.71%, and you can see on the screen that after the first year on a $10,000 investment, you would earn $471 in interest. Okay, not bad. And what happens is that interest gets added on to your initial investment. So now your ending balance at the end of the first year is $10,471. So why is that important? That's important because the following year the interest rate will be applied To your ending balance, so not to the 10,000, but to the 10,000 plus interest. So that's why you can see up on the screen here that in year two you will earn more interest than you did in the first year. So in year two the interest is $493. Okay, now that gets added on, of course, to the Ending balance from the previous year, and then your interest will be higher and higher every year. So now you can see on the screen. We've indicated how much interest is earned every single year for five years and in this example, on a $10,000 investment when the interest rate is 4.71%, your total interest earned would be over $2,587. So if we put all that up together on the screen, you can see that the total return on the on this investment is a little over 25%. So is this good, is this bad? Can we do better with dividend stocks or are we going to do worse with dividend stocks? Let's find out. So in this example, I'm going to be using a company called Aflac. Aflac is a US company. It's an insurance company. It was founded in 1955 and they have a little over 10,800 employees worldwide. So what we're going to do that in this example is we're going to stick with our initial Investment, like we did in term deposits. So we started with $10,000. So imagine, instead of putting that money in a term deposit, you were to put that in this company called Aflac. So $10,000 invested in this company five years ago. So you can see, the stock price five years ago was $20 and 50 cents. So on a $10,000 investment you would be able to buy 487.8 shares. Okay, so now let's see what that looks like over five years. So in the first year, right five years ago, the dividend per share was $1.08. And because you own 487.8 shares, we multiply that by the dividend, we can see that in the first year you would have earned $526 in dividends. In year two, the company raised its dividend to $1.12. So now you would earn $546 in dividends. And then year three, year four and year five, the dividend has gone up every single year, meaning the company has increased its dividend to the shareholders. And we can see now that, as of this recording, the company is paying a dividend of $1.68 a share. Five years ago the dividend was $1.08, but now it's at $1.68. And so now this year you would earn over $819 in dividends. So if we add up all the dividends from the last five years, you would have earned over $3,317 in dividends. Now keep in mind that the stock price has changed. Five years ago the stock price was $20.50. Today the stock price is $74.51. So let's put all this together and take a look at which investment is better. So if we take a look at the term deposit, we started with $10,000, initial investment. We earned $2,587 in interest. Now keep in mind, in most countries interest is taxed the same as income. So if you're in a high tax bracket let's say you're paying 35, 40% in income taxes then 40% of whatever interest you make will go to taxes, whereas dividends are taxed much less than interest. Okay, that was just a side note. I wanna get back to what's on the screen here. So with the term deposit, as I mentioned before, the value of your investment today would be worth over $12,587. That represents a total return of 25.8%. Now if we take a look at the dividend stock AFLAC the same $10,000 investment over five years you would have made more in dividends. So you would have made over $3,317 in dividends versus $2,587 in interest. Now, because AFLAC stock price has also gone up, that $10,000 investment today would be worth over $39,677, which represents a total return of over 296%. So I don't know about you, but I would rather make 296% return in five years rather than 25% return in five years. Now I know, with the term deposits your amount is guaranteed. Your initial amount is guaranteed, so you do get that back. But what you get back after five years is your initial investment plus interest. With dividend stocks you collect the growing dividend year after year after year, and if the stock price appreciates in value, well then that's going to grow your investment much, much more. Now there's a whole different topic, and we're not gonna talk about it in today's episode about certain individuals who wanna keep some money in stocks and they wanna keep some money in term deposits. That's fine. You have to look at your personal situation and see what makes sense for you. But from strictly looking at the highest returns possible to get your money to work for you, in this example we can see that the dividend stock provided much, much better returns than what we could have gotten in any term deposit. Now for your information, there's three other examples I just wanna touch on briefly. We don't go into it in much detail, and this is over a long period of time. For example, if you had invested a total of $8,350, sort of equally, I guess Well, we're going to cover that in. I'm going to jump forward here. I would recommend you go to episode seven. Episode seven goes into a lot of detail about these investments, but for today's episode I just have this one slide for you. So what I showed in episode seven is that a total investment of $8,350 in Coca-Cola, home Depot and Walmart many, many years ago today would provide you with over $921,000 annually in dividends. So that's huge. That is an extreme example of what's possible with dividend stocks. Over the longterm and as companies continue to grow their dividend. That $8,300 investment today would be worth over $47.2 million. Now I know the numbers seem outrageous. They seem very big. I would suggest that you go back and watch episode seven, where I show you all of the numbers in detail on where I came up with these numbers and what the investments would look like today. Anyway, I wanted to leave you with that last, final example. With these three companies, you can see that the potential to make a lot of money as a dividend investor over the longterm is huge. The potential is huge and that is something to consider when you're looking towards investing for yourself and for your future. So does this mean that you should just go out and buy any stock that pays any dividend? And the answer is no. What we wanna do is you wanna invest safely and reliably for the longterm. And how do we do that? By investing in quality dividend stocks when they are priced low. That is my approach to investing and that's what I've been teaching for over 15 years. I've been a dividend investor for over 23 years, and this is what I do and this is what I teach. You wanna invest not just in any stock, but in a quality dividend stock, and not just at any price, but when it's priced low. So when you're looking at a company, when you're looking at a stock, how do you know it's a quality stock and how do you know it's priced low? So for that I've created what I call the 12 rules of simply investing. You can see them up on the screen here. These 12 rules become your checklist. You can go through the checklist before you make any investment. A company has to pass all of the 12 rules, not just 10 out of the 12 or nine out of the 12. It has to pass all of the 12 rules. If a company fails one rule, skip it, move on to something else. So rule number one says do you understand how the company is making money? If you don't skip it? Rule number two 20 years from now will people still need its products and services? Rule number three does the company have a low cost competitive advantage? Rule number four is the company recession proof? Rule number five is it profitable? Rule number six does it grow with dividend? Rule number seven can it afford to pay the dividend? Rule number eight is the debt less than 70%? Rule number nine we want to avoid any company with a recent dividend cut. Rule number 10, does the company buy back its own shares? And rule number 11, is the stock priced low? So we check for three things. We look at the PE ratio. We want to make sure it's low. We take a look at the current dividend yield compared to the 20 year average yield. Make sure the current yield is higher than the 20 year average. And then we look at the PB ratio, the price to book ratio. So if all three conditions are met, then we know the company passes rule number 11, and the stock is priced low. You don't want to buy when stock is high, you want to buy when it's priced low. Why? Because you can buy more shares when it's priced low, and the more shares you want, the more dividends you earn. And rule number 12, keep your emotions out of investing. So, for those of you that are interested, I've created the online Simply Investing course. It covers all of these 12 rules in detail. In fact, it's a self-paced course. It's got 10 modules. Module number one we look at the investing basics. Module two we cover the 12 rules of Simply Investing. Module three you learn how to apply the 12 rules to any stock anywhere in the world, and I provide you with a Google spreadsheet. You can put all the numbers in there. The Google sheet will then highlight which rules are failed, which rules have passed. Then we show you how to use the Simply Investing platform. The next module is placing your first stock order. If you've never done it before, this is extremely helpful. I do it step by step with you. Then building and tracking your portfolio. Then learning when to sell, which is just as important as to know when to buy. Then reducing your fees and risk, especially when it comes to mutual funds, index funds and ETFs. And then, module number nine I provide you with your action plan to get started right away. And module 10, I answer your frequently asked questions, so we cover all that in the course. If you're looking for another option, I just want to mention the Simply Investing platform. It took me two to three years approximately to build. It is a web application that applies all of these rules to over 6,000 companies in the US and in Canada every single day. So when you log into the platform, you can immediately see which companies to consider and which companies to avoid. It will show you the companies and which rules they pass and which rules they fail. For those of you that are watching or listening, you may want to jot down the coupon code SAV10. S-a-v-e-1-0. This is a coupon code that's going to allow you to save 10% off of all of our products and services. That includes the course, the platform, and I also do personal one-on-one coaching calls, personal assessments, and so you can save 10% off any of those products. So I want to thank you for watching. If you enjoyed this episode, please hit the Subscribe button. We have a new episode out every week. Hit the Like button as well and for more information, take a look at our website, simplyinvestingcom. Thanks for watching.

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