Can compounding actually, LITERALLY take place on non-dividend stocks?

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Cornflakey
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Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by Cornflakey » Fri Mar 29, 2019 7:07 pm

One of the purists, the literal-minded and the pedantic (of which I am clearly one): if you are wholly invested in non-dividend yielding stocks/non-coupon yielding bonds for the long term, are you ACTUALLY compounding?

Example: your $10,000 invested with Berkshire Hathaway in 1965 is now worth considerably more, but in the absence of dividends, you still own the same number of shares you did 54 years ago.

If you put your $10,000 in a dividend paying stock (GE, say) today you would have considerably less in total return, but you would have compounding that you can observe as reinvested shares earned interest, and those shares earnt interest, and on and on.

So, a literal question for this fine community: does pure capital appreciation represent coumpounding?

PS: I take a particular pleasure in looking at dividends reinvested at quarter end, even if they create a tax liability: the new shares they buy are tangible proof of the veracity and effectiveness of the Boglehead philosophy - even if many boards advocate avoiding dividend ETFs like the plague.

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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by DonIce » Fri Mar 29, 2019 7:12 pm

Cornflakey wrote:
Fri Mar 29, 2019 7:07 pm
Example: your $10,000 invested with Berkshire Hathaway in 1965 is now worth considerably more, but in the absence of dividends, you still own the same number of shares you did 54 years ago.

If you put your $10,000 in a dividend paying stock (GE, say) today you would have considerably less in total return, but you would have compounding that you can observe as reinvested shares earned interest, and those shares earnt interest, and on and on.
In the example of Berkshire Hathaway, the compounding happens on their end. That is, they take their profits, and reinvest them into the business, so that they can generate more and more profits in future years. In the case of GE, part of those profits are paid out to you as dividends, which you use to buy more shares, seeing the compounding on your end.

Either way there is compounding. Unless the company squanders its money and fails to achieve increased future profits. But then you would also have regretted reinvesting your dividends into it.

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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by bertilak » Fri Mar 29, 2019 7:12 pm

Cornflakey wrote:
Fri Mar 29, 2019 7:07 pm
One of the purists, the literal-minded and the pedantic (of which I am clearly one): if you are wholly invested in non-dividend yielding stocks/non-coupon yielding bonds for the long term, are you ACTUALLY compounding?

Example: your $10,000 invested with Berkshire Hathaway in 1965 is now worth considerably more, but in the absence of dividends, you still own the same number of shares you did 54 years ago.

If you put your $10,000 in a dividend paying stock (GE, say) today you would have considerably less in total return, but you would have compounding that you can observe as reinvested shares earned interest, and those shares earnt interest, and on and on.

So, a literal question for this fine community: does pure capital appreciation represent coumpounding?

PS: I take a particular pleasure in looking at dividends reinvested at quarter end, even if they create a tax liability: the new shares they buy are tangible proof of the veracity and effectiveness of the Boglehead philosophy - even if many boards advocate avoiding dividend ETFs like the plague.
I'm not an expert on the exact terminology but expect a purist will say "no, that is not what compounding is." Here I'm keying off the word "LITERALLY" in the topic.

Never the less, I'd say it amounts to about the same thing: The company earns an income and can reinvest it directly or hand it off to you for you to decide if you want to reinvest it in the form of a stock purchase, even in a different company.
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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by willthrill81 » Fri Mar 29, 2019 7:23 pm

There's nothing special about dividends except that they receive inferior tax treatment in the U.S.

Yes, Virginia, compounding can occur just as easily with stocks that don't pay dividends as it does with those that do. For instance, the compound annual growth rate of Amazon (AMZN), which has never paid a dividend, since January of 1998 has been 28.72%.

I believe that part of the misunderstanding is that some believe that compounding cannot occur if returns are irregular, but that's false.
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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by Cornflakey » Fri Mar 29, 2019 7:26 pm

[/quote]

In the example of Berkshire Hathaway, the compounding happens on their end. That is, they take their profits, and reinvest them into the business, so that they can generate more and more profits in future years. In the case of GE, part of those profits are paid out to you as dividends, which you use to buy more shares, seeing the compounding on your end.

Either way there is compounding. Unless the company squanders its money and fails to achieve increased future profits. But then you would also have regretted reinvesting your dividends into it.
[/quote]

Thanks for the quick reply. Ok, so Berkshire is a conglomerate with underlying businesses. Does the same apply with Amazon say? They are spending their income on aggressive expansion. Would this CapEx, of which investors are benefiting through a steadily climbing valuation, also represent compounding?

Again, apologies for being a pendant - it is the observable nature of reinvested dividends that I understand and compounding. In the absence of seeing additional shares accruing to me, I find it an intellectual leap to believe that simply riding at rising stock is anything more than "hoping the next guy after you is willing to pay more for it than you did". A grotesque simplification, of course, but that's the essence of how I'm looking at this.

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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by Cornflakey » Fri Mar 29, 2019 7:31 pm

willthrill81 wrote:
Fri Mar 29, 2019 7:23 pm
There's nothing special about dividends except that they receive inferior tax treatment in the U.S.

Yes, Virginia, compounding can occur just as easily with stocks that don't pay dividends as it does with those that do. For instance, the compound annual growth rate of Amazon (AMZN), which has never paid a dividend, since January of 1998 has been 28.72%.

I believe that part of the misunderstanding is that some believe that compounding cannot occur if returns are irregular, but that's false.
Thanks for the response. You foresaw my Amazon example as I was writing it!

So given the punitive tax treatment of dividends, would an efficient market not migrate away from encouraging companies to pay a dividend and use their profits to increase market cap so shareholders have the choice of when to pay their tax liability?

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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by MotoTrojan » Fri Mar 29, 2019 7:32 pm

Cornflakey wrote:
Fri Mar 29, 2019 7:26 pm
In the example of Berkshire Hathaway, the compounding happens on their end. That is, they take their profits, and reinvest them into the business, so that they can generate more and more profits in future years. In the case of GE, part of those profits are paid out to you as dividends, which you use to buy more shares, seeing the compounding on your end.

Either way there is compounding. Unless the company squanders its money and fails to achieve increased future profits. But then you would also have regretted reinvesting your dividends into it.
[/quote]

Thanks for the quick reply. Ok, so Berkshire is a conglomerate with underlying businesses. Does the same apply with Amazon say? They are spending their income on aggressive expansion. Would this CapEx, of which investors are benefiting through a steadily climbing valuation, also represent compounding?

Again, apologies for being a pendant - it is the observable nature of reinvested dividends that I understand and compounding. In the absence of seeing additional shares accruing to me, I find it an intellectual leap to believe that simply riding at rising stock is anything more than "hoping the next guy after you is willing to pay more for it than you did". A grotesque simplification, of course, but that's the essence of how I'm looking at this.
[/quote]

Amazon is clearly growing, so I don't think you need to argue about the specifics of what the company does with the money. Simplify it.

Company A has no dividend and grows at 10% annually.

Company B has modest growth of 2% but is too big to keep growing so they give you 8% as a dividend, for a total return of 10%.

Taxes aside, if you bought $10K of each, you'd end up with the same amount in X years. Even though your share count isn't growing at an increasing rate in company A, your 10% growth is occurring on a larger and larger value. This is still a compounding effect; each year you earn more outright dollars (from the same 10% growth) which means the next year you earn even more, etc... It compounds.

There is no difference between Amazon's return and Berkshire's; both will compound the same way (up or down).

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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by nisiprius » Fri Mar 29, 2019 7:32 pm

Literally, I would say that compounding cannot occur on anything but debt instruments.

Compound interest literally occurs when a creditor adds unpaid interest payments to a loan, and then charges interest on them. That is to say, when a creditor charges interest on the interest, "compounding" the interest.

In the 1800s, compound interest was considered to be in a grey area legally, "savoring of usury." As recently as 1913, a book on contract law could say
There is considerable conflict among the authorities as to whether an executory contract for compound interest can be enforced; but the payment of such interest by the debtor, with knowledge and without oppression, does not constitute usury. While there is no law prohibiting such a contract, the courts have adopted the rule from notions of policy, and although it may be demanded and recovered as it becomes due, it is held in a number of cases that an agreement to pay interest on the interest after it becomes due cannot be enforced.
See my posting here for more details.

Since stocks are not debt instruments, and the word "interest" cannot be used in connection with them, I don't think "compounding" in a literal sense can take place.

Many things that are not debts exhibit exponential growth. Since the most familiar financial form of exponential growth is compound interest. Any investment will show exponential growth if it grows by a steady percentage of its total size. This is a characteristic of growing businesses under favorable conditions, when its ability to grow is limited only by its resources... which are growing. In the financial world, then, it seems acceptable to call exponential growth "compound interest growth" or "compound growth" or "compounding."

That name, "compounding," is acceptable, regardless of whether the source of the growth is internal to the stock (as in a non-dividend-paying stock), or whether it is external, within the investor's account, resulting from dividends being used to buy additional shares of stock.

In other words, a literal definition of "compounding" would exclude all stocks. A common, relaxed definition, simply meaning "the customary financial term for exponential growth," would include all stocks.

You can probably construct a definition of "compounding" that would include dividend stocks and exclude non-dividend stocks, but I think such a definition would be completely artificial, and wouldn't correspond to any normal understanding of the word "compounding."
Last edited by nisiprius on Fri Mar 29, 2019 7:37 pm, edited 4 times in total.
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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by MotoTrojan » Fri Mar 29, 2019 7:33 pm

Cornflakey wrote:
Fri Mar 29, 2019 7:31 pm


So given the punitive tax treatment of dividends, would an efficient market not migrate away from encouraging companies to pay a dividend and use their profits to increase market cap so shareholders have the choice of when to pay their tax liability?
Yes, which is why some companies like BK do buybacks instead. Even if the market is efficient, MANY people still feel better with dividends as if they are some magic gift.

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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by willthrill81 » Fri Mar 29, 2019 7:34 pm

Cornflakey wrote:
Fri Mar 29, 2019 7:26 pm
In the absence of seeing additional shares accruing to me, I find it an intellectual leap to believe that simply riding at rising stock is anything more than "hoping the next guy after you is willing to pay more for it than you did". A grotesque simplification, of course, but that's the essence of how I'm looking at this.
Here's how to view dividends.

Let's say that you own a business outright. You transfer $1,000 from your business checking account to your personal checking account. Has your net worth improved? No, because you owned the cash the whole time.

It's the same situation when you own shares. Those who own shares of Berkshire Hathaway own a proportional share of the $30 billion that they have on hand (as of June, 2018). All else being equal, the more cash that they have on hand, the more the stock should be worth. So no, non-dividend paying stocks are not a Ponzi scheme.
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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by pdavi21 » Fri Mar 29, 2019 7:36 pm

Compounding can literally be negative. You do not understand the definition of compounding.
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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by tibbitts » Fri Mar 29, 2019 7:37 pm

Cornflakey wrote:
Fri Mar 29, 2019 7:07 pm
One of the purists, the literal-minded and the pedantic (of which I am clearly one): if you are wholly invested in non-dividend yielding stocks/non-coupon yielding bonds for the long term, are you ACTUALLY compounding?

Example: your $10,000 invested with Berkshire Hathaway in 1965 is now worth considerably more, but in the absence of dividends, you still own the same number of shares you did 54 years ago.

If you put your $10,000 in a dividend paying stock (GE, say) today you would have considerably less in total return, but you would have compounding that you can observe as reinvested shares earned interest, and those shares earnt interest, and on and on.

So, a literal question for this fine community: does pure capital appreciation represent coumpounding?

PS: I take a particular pleasure in looking at dividends reinvested at quarter end, even if they create a tax liability: the new shares they buy are tangible proof of the veracity and effectiveness of the Boglehead philosophy - even if many boards advocate avoiding dividend ETFs like the plague.
No, it can't take place on non-dividend paying stocks. Nor on dividend-paying stocks, for that matter. Seems simple.

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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by willthrill81 » Fri Mar 29, 2019 7:38 pm

Cornflakey wrote:
Fri Mar 29, 2019 7:31 pm
So given the punitive tax treatment of dividends, would an efficient market not migrate away from encouraging companies to pay a dividend and use their profits to increase market cap so shareholders have the choice of when to pay their tax liability?
One could argue that that is precisely what has been happening; stock buybacks may be replacing dividends as a means of returning value to shareholders. However, there are many investors out there who are willing to pay more for dividend paying stocks because they erroneously believe that dividends are inherently more valuable than capital appreciation, so there are many companies out there still willing to oblige.
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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by Cornflakey » Fri Mar 29, 2019 7:47 pm

pdavi21 wrote:
Fri Mar 29, 2019 7:36 pm
Compounding can literally be negative. You do not understand the definition of compounding.
You're quite astute: I don't understand how compounding can be negative. Care to enlighten me/us?

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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by willthrill81 » Fri Mar 29, 2019 7:49 pm

Cornflakey wrote:
Fri Mar 29, 2019 7:47 pm
pdavi21 wrote:
Fri Mar 29, 2019 7:36 pm
Compounding can literally be negative. You do not understand the definition of compounding.
You're quite astute: I don't understand how compounding can be negative. Care to enlighten me/us?
One word: inflation.
“It's a dangerous business, Frodo, going out your door. You step onto the road, and if you don't keep your feet, there's no knowing where you might be swept off to.” J.R.R. Tolkien,The Lord of the Rings

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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by pdavi21 » Fri Mar 29, 2019 7:49 pm

Cornflakey wrote:
Fri Mar 29, 2019 7:47 pm
pdavi21 wrote:
Fri Mar 29, 2019 7:36 pm
Compounding can literally be negative. You do not understand the definition of compounding.
You're quite astute: I don't understand how compounding can be negative. Care to enlighten me/us?
If your investment keeps losing 5% annually, it doesn't go to zero in twenty years (compounding).

EDIT: Sorry for being snarky, but compound has nothing to do with anything besides converting a return over one time interval to a return over another time interval. You are using a marketing oriented version/connotation of the word which is mathematically incorrect. Obviously, you heard it from someone trying to sell high dividend stocks (or you are someone trying to sell high divedend stocks).
Last edited by pdavi21 on Fri Mar 29, 2019 7:53 pm, edited 1 time in total.
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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by MotoTrojan » Fri Mar 29, 2019 7:51 pm

There are countless stocks out there yielding >10% (Cramer was asked today about one at 14%). Why aren't you buying those?

Hint: You are smart not to, but I am trying to prove a point.

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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by bertilak » Fri Mar 29, 2019 7:56 pm

willthrill81 wrote:
Fri Mar 29, 2019 7:38 pm
Cornflakey wrote:
Fri Mar 29, 2019 7:31 pm
So given the punitive tax treatment of dividends, would an efficient market not migrate away from encouraging companies to pay a dividend and use their profits to increase market cap so shareholders have the choice of when to pay their tax liability?
One could argue that that is precisely what has been happening; stock buybacks may be replacing dividends as a means of returning value to shareholders. However, there are many investors out there who are willing to pay more for dividend paying stocks because they erroneously believe that dividends are inherently more valuable than capital appreciation, so there are many companies out there still willing to oblige.
I am one of those investors who think there is some truth in the inherent value of dividends over capital appreciation.

Although not a contract, many dividend paying companies treat their dividend as if it were a contract and will go to great lengths to maintain and usually increase it. Thus a dividend has some regularity to it when compared to capital appreciation. That regularity has value, even if it is hard to quantify. Even if it is not totally reliable it is more reliable than capital appreciation.

Related to this is the concept of "safe withdrawal rate." If you spend the capital there is a chance you will spend too much. The company insiders are motivated to NOT give out too much in dividends -- they want to keep the company afloat and need to balance growth and payout. That too has some value and is something that you, not being a company insider, can't do on your own. A cut dividend is a warning that perhaps you, as a stockholder, should also cut back.

Whether or not the tax consequences overwhelm that is a question I don't know how to answer.
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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by MotoTrojan » Fri Mar 29, 2019 7:57 pm

Cornflakey wrote:
Fri Mar 29, 2019 7:26 pm

Again, apologies for being a pendant - it is the observable nature of reinvested dividends that I understand and compounding. In the absence of seeing additional shares accruing to me, I find it an intellectual leap to believe that simply riding at rising stock is anything more than "hoping the next guy after you is willing to pay more for it than you did". A grotesque simplification, of course, but that's the essence of how I'm looking at this.
Why do you expect the NAV of your holdings to continue growing enough to make-up for the dividend (maintain the same NAV perpetually)? That is no different than a no-dividend stock which relies on it's NAV to grow too.

Let's say you are investing in a company worth $1M, own 10% of the company, and they pay a 10% dividend.

Year 0; You have $100K
Year 1; company pays you $10K and is now worth $900K (paid out $100K in whole); you have $100K
Year 2; company pays you $9K and is now worth $810K; you have $100K

See how you aren't making a dollar? In fact, the IRS is the only person winning.

And this isn't even the worst case scenario; GE was far worse the last few years (NAV went down more than the dividend payment).
Last edited by MotoTrojan on Fri Mar 29, 2019 7:59 pm, edited 1 time in total.

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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by MotoTrojan » Fri Mar 29, 2019 7:58 pm

bertilak wrote:
Fri Mar 29, 2019 7:56 pm
willthrill81 wrote:
Fri Mar 29, 2019 7:38 pm
Cornflakey wrote:
Fri Mar 29, 2019 7:31 pm
So given the punitive tax treatment of dividends, would an efficient market not migrate away from encouraging companies to pay a dividend and use their profits to increase market cap so shareholders have the choice of when to pay their tax liability?
One could argue that that is precisely what has been happening; stock buybacks may be replacing dividends as a means of returning value to shareholders. However, there are many investors out there who are willing to pay more for dividend paying stocks because they erroneously believe that dividends are inherently more valuable than capital appreciation, so there are many companies out there still willing to oblige.
I am one of those investors who think there is some truth in the inherent value of dividends over capital appreciation.

Although not a contract, many dividend paying companies treat their dividend as if it were a contract and will go to great lengths to maintain and usually increase it. Thus a dividend has some regularity to it when compared to capital appreciation. That regularity has value, even if it is hard to quantify. Even if it is not totally reliable it is more reliable than capital appreciation.

Related to this is the concept of "safe withdrawal rate." If you spend the capital there is a chance you will spend too much. The company insiders are motivated to NOT give out too much in dividends -- they want to keep the company afloat and need to balance growth and payout. That too has some value and is something that you, not being a company insider, can't do on your own. A cut dividend is a warning that perhaps you, as a stockholder, should also cut back.

Whether or not the tax consequences overwhelm that is a question I don't know how to answer.
See my example above. Even if a company is contractually obligated to pay a dividend, that doesn't mean they'll be able to while maintaining a non-zero total return.

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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by bertilak » Fri Mar 29, 2019 8:09 pm

MotoTrojan wrote:
Fri Mar 29, 2019 7:58 pm
bertilak wrote:
Fri Mar 29, 2019 7:56 pm
Even if it is not totally reliable it is more reliable than capital appreciation.
See my example above. Even if a company is contractually obligated to pay a dividend, that doesn't mean they'll be able to while maintaining a non-zero total return.
Thus my sentence above. If you want that kind of obligation, buy bonds. Even those they may fail to deliver on. I was talking about degree of reliability and how a larger degree had some value.
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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by Cornflakey » Fri Mar 29, 2019 8:12 pm

MotoTrojan wrote:
Fri Mar 29, 2019 7:57 pm
Cornflakey wrote:
Fri Mar 29, 2019 7:26 pm

Again, apologies for being a pendant - it is the observable nature of reinvested dividends that I understand and compounding. In the absence of seeing additional shares accruing to me, I find it an intellectual leap to believe that simply riding at rising stock is anything more than "hoping the next guy after you is willing to pay more for it than you did". A grotesque simplification, of course, but that's the essence of how I'm looking at this.
Why do you expect the NAV of your holdings to continue growing enough to make-up for the dividend (maintain the same NAV perpetually)? That is no different than a no-dividend stock which relies on it's NAV to grow too.

Let's say you are investing in a company worth $1M, own 10% of the company, and they pay a 10% dividend.

Year 0; You have $100K
Year 1; company pays you $10K and is now worth $900K (paid out $100K in whole); you have $100K
Year 2; company pays you $9K and is now worth $810K; you have $100K

See how you aren't making a dollar? In fact, the IRS is the only person winning.

And this isn't even the worst case scenario; GE was far worse the last few years (NAV went down more than the dividend payment).
THIS is a very compelling argument. Thank you. I guess this is the reason why the two big Vanguard dividend ETFs (Appreciation - VIG; High Yield - VYM) don't get much love around these parts.

So, (and no snark here at all) the takeaway is invest in VTSAX/VTI? That seems the mantra.

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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by MotoTrojan » Fri Mar 29, 2019 8:14 pm

bertilak wrote:
Fri Mar 29, 2019 8:09 pm
MotoTrojan wrote:
Fri Mar 29, 2019 7:58 pm
bertilak wrote:
Fri Mar 29, 2019 7:56 pm
Even if it is not totally reliable it is more reliable than capital appreciation.
See my example above. Even if a company is contractually obligated to pay a dividend, that doesn't mean they'll be able to while maintaining a non-zero total return.
Thus my sentence above. If you want that kind of obligation, buy bonds. Even those they may fail to deliver on. I was talking about degree of reliability and how a larger degree had some value.
I respectfully disagree. There is no advantage a dividend paying business has over one that doesn't, so there is nothing making it more reliable at providing a higher total return. It may make you sleep better at night, but you are still at the same downside risk.

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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by MotoTrojan » Fri Mar 29, 2019 8:16 pm

Cornflakey wrote:
Fri Mar 29, 2019 8:12 pm
MotoTrojan wrote:
Fri Mar 29, 2019 7:57 pm
Cornflakey wrote:
Fri Mar 29, 2019 7:26 pm

Again, apologies for being a pendant - it is the observable nature of reinvested dividends that I understand and compounding. In the absence of seeing additional shares accruing to me, I find it an intellectual leap to believe that simply riding at rising stock is anything more than "hoping the next guy after you is willing to pay more for it than you did". A grotesque simplification, of course, but that's the essence of how I'm looking at this.
Why do you expect the NAV of your holdings to continue growing enough to make-up for the dividend (maintain the same NAV perpetually)? That is no different than a no-dividend stock which relies on it's NAV to grow too.

Let's say you are investing in a company worth $1M, own 10% of the company, and they pay a 10% dividend.

Year 0; You have $100K
Year 1; company pays you $10K and is now worth $900K (paid out $100K in whole); you have $100K
Year 2; company pays you $9K and is now worth $810K; you have $100K

See how you aren't making a dollar? In fact, the IRS is the only person winning.

And this isn't even the worst case scenario; GE was far worse the last few years (NAV went down more than the dividend payment).
THIS is a very compelling argument. Thank you. I guess this is the reason why the two big Vanguard dividend ETFs (Appreciation - VIG; High Yield - VYM) don't get much love around these parts.

So, (and no snark here at all) the takeaway is invest in VTSAX/VTI? That seems the mantra.
I invest in more than just VTI, but yes that is the idea. Some people will cite better returns for dividend funds, but many believe that comes from a natural tilt towards value (dividend stocks are more likely to be value than growth) and value has outperformed over the longterm. If you want that exposure however I feel a pure value fund is a better/more-direct way to get it, since there is nothing inherent to the dividend itself that should increase factor-based returns.

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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by alex_686 » Fri Mar 29, 2019 8:17 pm

So, compounding is often used as a simplification in investing.

While it is a very useful simplification in modeling, technical it is not true. The stock market follows a random walk which killls many “compounding” calculations. So be forwarded.

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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by MotoTrojan » Fri Mar 29, 2019 8:26 pm

alex_686 wrote:
Fri Mar 29, 2019 8:17 pm
So, compounding is often used as a simplification in investing.

While it is a very useful simplification in modeling, technical it is not true. The stock market follows a random walk which killls many “compounding” calculations. So be forwarded.
The stock market still has a compound annual growth rate which is quite consistent in the long term. Not sure what is technically untrue. You can compound even if your return is variable.

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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by willthrill81 » Fri Mar 29, 2019 8:34 pm

MotoTrojan wrote:
Fri Mar 29, 2019 8:26 pm
alex_686 wrote:
Fri Mar 29, 2019 8:17 pm
So, compounding is often used as a simplification in investing.

While it is a very useful simplification in modeling, technical it is not true. The stock market follows a random walk which killls many “compounding” calculations. So be forwarded.
The stock market still has a compound annual growth rate which is quite consistent in the long term. Not sure what is technically untrue. You can compound even if your return is variable.
Yes, and this point is lost on many. Compounded return simply refer to the product of one's returns over multiple periods of time.

If we didn't use compounded annual growth rates to compare investments, what would we use instead to compare returns? :confused
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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by bertilak » Fri Mar 29, 2019 8:42 pm

MotoTrojan wrote:
Fri Mar 29, 2019 8:14 pm
bertilak wrote:
Fri Mar 29, 2019 8:09 pm
MotoTrojan wrote:
Fri Mar 29, 2019 7:58 pm
bertilak wrote:
Fri Mar 29, 2019 7:56 pm
Even if it is not totally reliable it is more reliable than capital appreciation.
See my example above. Even if a company is contractually obligated to pay a dividend, that doesn't mean they'll be able to while maintaining a non-zero total return.
Thus my sentence above. If you want that kind of obligation, buy bonds. Even those they may fail to deliver on. I was talking about degree of reliability and how a larger degree had some value.
I respectfully disagree. There is no advantage a dividend paying business has over one that doesn't, so there is nothing making it more reliable at providing a higher total return. It may make you sleep better at night, but you are still at the same downside risk.
I am not talking about any advantage to the business, just whether the business model has any advantage to the investor.
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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by willthrill81 » Fri Mar 29, 2019 8:49 pm

bertilak wrote:
Fri Mar 29, 2019 8:42 pm
MotoTrojan wrote:
Fri Mar 29, 2019 8:14 pm
bertilak wrote:
Fri Mar 29, 2019 8:09 pm
MotoTrojan wrote:
Fri Mar 29, 2019 7:58 pm
bertilak wrote:
Fri Mar 29, 2019 7:56 pm
Even if it is not totally reliable it is more reliable than capital appreciation.
See my example above. Even if a company is contractually obligated to pay a dividend, that doesn't mean they'll be able to while maintaining a non-zero total return.
Thus my sentence above. If you want that kind of obligation, buy bonds. Even those they may fail to deliver on. I was talking about degree of reliability and how a larger degree had some value.
I respectfully disagree. There is no advantage a dividend paying business has over one that doesn't, so there is nothing making it more reliable at providing a higher total return. It may make you sleep better at night, but you are still at the same downside risk.
I am not talking about any advantage to the business, just whether the business model has any advantage to the investor.
If the business and its model has value to you, then you should own it. Otherwise, you should sell it.
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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by MotoTrojan » Fri Mar 29, 2019 9:31 pm

bertilak wrote:
Fri Mar 29, 2019 8:42 pm
MotoTrojan wrote:
Fri Mar 29, 2019 8:14 pm
bertilak wrote:
Fri Mar 29, 2019 8:09 pm
MotoTrojan wrote:
Fri Mar 29, 2019 7:58 pm
bertilak wrote:
Fri Mar 29, 2019 7:56 pm
Even if it is not totally reliable it is more reliable than capital appreciation.
See my example above. Even if a company is contractually obligated to pay a dividend, that doesn't mean they'll be able to while maintaining a non-zero total return.
Thus my sentence above. If you want that kind of obligation, buy bonds. Even those they may fail to deliver on. I was talking about degree of reliability and how a larger degree had some value.
I respectfully disagree. There is no advantage a dividend paying business has over one that doesn't, so there is nothing making it more reliable at providing a higher total return. It may make you sleep better at night, but you are still at the same downside risk.
I am not talking about any advantage to the business, just whether the business model has any advantage to the investor.
I respectfully continue to disagree. A dividend is no different, taxes aside, than a capital gain. Just means the company couldn’t put it to any better use than giving it to you. Doesn’t make your returns more reliable.

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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by JustinR » Fri Mar 29, 2019 10:36 pm

Cornflakey wrote:
Fri Mar 29, 2019 7:07 pm
One of the purists, the literal-minded and the pedantic (of which I am clearly one): if you are wholly invested in non-dividend yielding stocks/non-coupon yielding bonds for the long term, are you ACTUALLY compounding?

Example: your $10,000 invested with Berkshire Hathaway in 1965 is now worth considerably more, but in the absence of dividends, you still own the same number of shares you did 54 years ago.

If you put your $10,000 in a dividend paying stock (GE, say) today you would have considerably less in total return, but you would have compounding that you can observe as reinvested shares earned interest, and those shares earnt interest, and on and on.

So, a literal question for this fine community: does pure capital appreciation represent coumpounding?

PS: I take a particular pleasure in looking at dividends reinvested at quarter end, even if they create a tax liability: the new shares they buy are tangible proof of the veracity and effectiveness of the Boglehead philosophy - even if many boards advocate avoiding dividend ETFs like the plague.
Literally speaking, stocks don't compound at all. The share prices simply increase. It's not like a savings account at your bank.

When people talk about stocks compounding, they're using it in the looser sense where you calculate annual growth.

And dividends also have nothing to do with compounding wealth. Dividends don't increase your wealth at all. The only thing that compounds with dividends is "number of shares", but that's completely meaningless. There's no difference between 1 share of $100 or 100 shares of $1.

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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by bertilak » Fri Mar 29, 2019 11:30 pm

JustinR wrote:
Fri Mar 29, 2019 10:36 pm
There's no difference between 1 share of $100 or 100 shares of $1.
Unless each share has a $1 dividend.
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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by JustinR » Fri Mar 29, 2019 11:42 pm

bertilak wrote:
Fri Mar 29, 2019 11:30 pm
JustinR wrote:
Fri Mar 29, 2019 10:36 pm
There's no difference between 1 share of $100 or 100 shares of $1.
Unless each share has a $1 dividend.
No, it would still be the same.

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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by Dantes » Sat Mar 30, 2019 6:05 am

As usual posters are disagreeing because they use different meanings for the same word. For some people it seems to simply mean growth, while for others the compounding in the title refers to compound interest. I think that almost everyone knows that growth has occurred in non-dividend paying stocks and bond. So the OP's question would be meaningless if the term compounding was used in that very general sense.

The word LITERALLY in the heading is another clue. While the OP refers to themself as "pedantic", clearly they are insufficiently pedantic.

I will say that when a stock pays dividends, and the dividends are reinvested, and those new shares of stock then generate dividends, that that is analogous to paying interest on interest.

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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by nisiprius » Sat Mar 30, 2019 6:54 am

Is this thread about the supposed or challenged superiority of dividend stocks, or is it sincerely about the meaning of words?

Let's speak to the meaning of the word. Here are the definitions of "compound" from ahdictionary.com:

1. To combine so as to form a whole; mix: Tin was often compounded with lead to make pewter.
2. To produce or create by combining two or more ingredients or parts; compose or make up: pharmacists compounding prescriptions.
3. To settle (a debt, for example) by agreeing on an amount less than the claim; adjust.
4. To compute (interest) on the principal and accrued interest.
5.
a. To add to or intensify so as to make worse: "The university authorities ... compounded their crime in dismissing [the professor] by denying that their action ... reflected any abridgment of academic freedom" (John Kenneth Galbraith).
b. To make worse by being an additional or intensifying factor: High winds compounded the difficulties of the firefighters.
v.intr.
1. To combine in or form a compound.
2. To come to terms; agree.
adj. (kŏmpound′, kŏm-pound, kəm-)
1. Consisting of two or more substances, ingredients, elements, or parts.
2. Botany Composed of more than one part: a compound pistil.
n. (kŏmpound′)
1. A combination of two or more elements or parts.
2. Linguistics A word that consists either of two or more elements that are independent words, such as loudspeaker, self-portrait, or high school, or of specially modified combining forms of words, such as Greek philosophia, from philo-, "loving," and sophia, "wisdom."
3. Chemistry A pure, macroscopically homogeneous substance consisting of atoms or ions of two or more different elements in definite proportions that cannot be separated by physical means. A compound usually has properties unlike those of its constituent elements.

The only financial definition is #4, and it refers only to interest. I note that it isn't even the interest or the loan that "compounds," but only the banker, or her computer, calculating loan interest.

Stocks are not loans and do not pay interest. Stocks do not compound. We do not compound when we calculate CAGR. We calculate a growth rate equivalent to compound interest growth over a period of time, but we do not compound. And, of course, we can calculate a CAGR on a non-dividend-paying stock.

It seems to me that in the 1950s it was rare to use "compound" by itself to mean exponential growth. On the other hand, it was fairly common to see the full phrase "compound interest growth" as a way of describing exponential growth, as in "exhibits compound-interest growth" or "grows by a compound-interest law" or "grows according to the law of compound interest." I've had some trouble finding actual examples, though.
Last edited by nisiprius on Sat Mar 30, 2019 8:35 am, edited 1 time in total.
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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by Ferdinand2014 » Sat Mar 30, 2019 7:31 am

Cornflakey wrote:
Fri Mar 29, 2019 7:07 pm
One of the purists, the literal-minded and the pedantic (of which I am clearly one): if you are wholly invested in non-dividend yielding stocks/non-coupon yielding bonds for the long term, are you ACTUALLY compounding?

Example: your $10,000 invested with Berkshire Hathaway in 1965 is now worth considerably more, but in the absence of dividends, you still own the same number of shares you did 54 years ago.

If you put your $10,000 in a dividend paying stock (GE, say) today you would have considerably less in total return, but you would have compounding that you can observe as reinvested shares earned interest, and those shares earnt interest, and on and on.

So, a literal question for this fine community: does pure capital appreciation represent coumpounding?

PS: I take a particular pleasure in looking at dividends reinvested at quarter end, even if they create a tax liability: the new shares they buy are tangible proof of the veracity and effectiveness of the Boglehead philosophy - even if many boards advocate avoiding dividend ETFs like the plague.
Yes.

A company can grow in a compounding way by investing profits in new capital expenditures (for example) which in turn can bring more growth which in turn can bring even more growth. This compounds the growth of the company which over time shows up in the value of the stock of the company. You realize that compounding when you sell your shares. The company and its shares in essence become a bank of continuous compounding growth for you to sell and take those compounding profits at your choosing and at Mr. Markets going price.

Dividends alternatively give you (instead of the company), the option of compounding by buying more shares of the company or taking the cash.

Share buybacks can be another way a company increases value to the shareholder because it over time makes the shares you own a larger portion of the company and its future growth.

The dividends are taxed immediately, where as unrealized compounded growth is only taxed at time of sale. Share repurchases are more tax efficient by our current tax code vs dividends. So companies tend to be drifting towards this rather than dividends.

Of course in either case, if the company grows broke, it doesn't matter how it's compounded.

I get how you like the feel and control of seeing those dividends thrown at you every quarter.

I would encourage you to read the Berkshire Hathaway annual share letters by Warren Buffett. It is very educational not just from the company standpoint, but of understanding these comments and how companies grow. I would read 2017 and 2018 in particular. There is a ton of information about dividends, compounding, what individual investors should do, etc.

http://www.berkshirehathaway.com/letters/letters.html
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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by staythecourse » Sat Mar 30, 2019 7:41 am

Not to steal the thread, but try to expand on the OP question.

Have always had a math doubt about the difference of investing in gold via ETF vs. physical. If you buy gold at $1200 on x date in ETF vs. physical and then sell it for $1500 on y date is there a difference between the profit? The physical shares of course appreciates to a net of $300, but how about the ETF version? The profit would be whatever the daily price comounded on the day before from x date to y date, no?

Any insight on this would be appreciated as it is a concept my mind can't quite get around.

Good luck.
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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by CyclingDuo » Sat Mar 30, 2019 7:49 am

nisiprius wrote:
Sat Mar 30, 2019 6:54 am
4. To compute (interest) on the principal and accrued interest.


The only financial definition is #4, and it refers only to interest. I note that it isn't even the interest or the loan that "compounds," but only the banker, or her computer, calculating loan interest.

Stocks are not loans and do not pay interest. Stocks do not compound. We do not compound when we calculate CAGR. We calculate a growth rate equivalent to compound interest growth over a period of time, but we do not compound. And, of course, we can calculate a CAGR on a non-dividend-paying stock.

It seems to me that in the 1950s it was rare to use "compound" by itself to mean exponential growth. On the other hand, it was fairly common to see the full phrase "compound interest growth" as a way of describing exponential growth, as in "exhibits compound-interest growth" or "grows by a compound-interest law" or "grows according to the law of compound interest." I've had some trouble finding actual examples, though.
To go with #4... :mrgreen:

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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by rkhusky » Sat Mar 30, 2019 8:04 am

Another thing to consider is that there is not necessarily a direct link between growth of the company and growth of its stock price. There is likely a high correlation, but just because a company is growing does not necessarily mean that its stock price will grow at the same rate. Dividends are a direct link to the company's profits, whereas stock price increases are an indirect link.

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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by Ferdinand2014 » Sat Mar 30, 2019 8:06 am

staythecourse wrote:
Sat Mar 30, 2019 7:41 am
Not to steal the thread, but try to expand on the OP question.

Have always had a math doubt about the difference of investing in gold via ETF vs. physical. If you buy gold at $1200 on x date in ETF vs. physical and then sell it for $1500 on y date is there a difference between the profit? The physical shares of course appreciates to a net of $300, but how about the ETF version? The profit would be whatever the daily price comounded on the day before from x date to y date, no?

Any insight on this would be appreciated as it is a concept my mind can't quite get around.

Good luck.
Gold doesn’t compound. 1 oz today is 1 oz in 1,000 years. The price is simply the relative value to the currency it’s traded in and in the hopes someone behind you is willing to pay more.
“You only find out who is swimming naked when the tide goes out.“ — Warren Buffett

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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by staythecourse » Sat Mar 30, 2019 8:10 am

Ferdinand2014 wrote:
Sat Mar 30, 2019 8:06 am
staythecourse wrote:
Sat Mar 30, 2019 7:41 am
Not to steal the thread, but try to expand on the OP question.

Have always had a math doubt about the difference of investing in gold via ETF vs. physical. If you buy gold at $1200 on x date in ETF vs. physical and then sell it for $1500 on y date is there a difference between the profit? The physical shares of course appreciates to a net of $300, but how about the ETF version? The profit would be whatever the daily price comounded on the day before from x date to y date, no?

Any insight on this would be appreciated as it is a concept my mind can't quite get around.

Good luck.
Gold doesn’t compound. 1 oz today is 1 oz in 1,000 years.
That is my question if gold ETF price today is $1200 and then goes down to $1000 and then up to $2000 doesn't it compound (like any other ETF each day based on the price the day before)? Mind you I am sure I am not using the term compounding correct here. Does my question make any sense?

Good luck.
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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by Ferdinand2014 » Sat Mar 30, 2019 8:22 am

staythecourse wrote:
Sat Mar 30, 2019 8:10 am
Ferdinand2014 wrote:
Sat Mar 30, 2019 8:06 am
staythecourse wrote:
Sat Mar 30, 2019 7:41 am
Not to steal the thread, but try to expand on the OP question.

Have always had a math doubt about the difference of investing in gold via ETF vs. physical. If you buy gold at $1200 on x date in ETF vs. physical and then sell it for $1500 on y date is there a difference between the profit? The physical shares of course appreciates to a net of $300, but how about the ETF version? The profit would be whatever the daily price comounded on the day before from x date to y date, no?

Any insight on this would be appreciated as it is a concept my mind can't quite get around.

Good luck.
Gold doesn’t compound. 1 oz today is 1 oz in 1,000 years.
That is my question if gold ETF price today is $1200 and then goes down to $1000 and then up to $2000 doesn't it compound (like any other ETF each day based on the price the day before)? Mind you I am sure I am not using the term compounding correct here. Does my question make any sense?

Good luck.
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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by Ferdinand2014 » Sat Mar 30, 2019 8:33 am

rkhusky wrote:
Sat Mar 30, 2019 8:04 am
Another thing to consider is that there is not necessarily a direct link between growth of the company and growth of its stock price. There is likely a high correlation, but just because a company is growing does not necessarily mean that its stock price will grow at the same rate. Dividends are a direct link to the company's profits, whereas stock price increases are an indirect link.
True. If a company tanks, dividends or non realized gains will both go down. In the short term, there is little correlation. Over the long term, very high correlation.
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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by nisiprius » Sat Mar 30, 2019 8:43 am

Some examples of actual use outside of loans and debt illustrating that when "compounding" does not literally refer to loans, debt, and interest, then it refers generally to any kind of self-accelerating, approximately exponential growth, and thus applies to all kinds of businesses and their stocks, as well as populations of organisms, publication of scientific papers, etc.

From a 1955 botany book: "the true growth rate [of a plant], up to the time, approximately August 9th, when constant compound-interest growth ceased."

From a 1970 book on statistical methods: "compound interest growth is an example of what scientists call the natural law of growth..."

From a 1966 natural resources conference, referring to the growth of bacteria in broth: "this is logistic growth, and it is the consequences of the interaction between compound interest growth or exponential growth, and the limitations of the environment."

("Logistic growth," and a mathematical equation and curve called the "logistic curve," apply to the growth that slows as resources are exhausted.

From a 2012 book on genetics: "There is no need to give other examples of the capacity of living things for exponential compound-interest growth wherever opportunity offers."

From a 1962 scientific paper on the growing production of scientific papers (!): "What really matters is not the fact of exponential or compound interest growth in itself, but rather that the doubling period is shorter, or the compound interest rate greater, than for other forms of human activity..."
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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by bertilak » Sat Mar 30, 2019 9:05 am

staythecourse wrote:
Sat Mar 30, 2019 8:10 am
That is my question if gold ETF price today is $1200 and then goes down to $1000 and then up to $2000 doesn't it compound (like any other ETF each day based on the price the day before)? Mind you I am sure I am not using the term compounding correct here. Does my question make any sense?
Good luck.
Not all growth is compound growth. To make that distinction is why we even use the qualifier "compound."

Example (growth but not compound growth): You have a portfolio consisting of 100 bonds worth $100 each. If each bond pays a $1 cash dividend each month your portfolio will grow by $100 per month. After one month you will (still) have 100 bonds and, now, $100 in cash. After 2 months you have 1 bond and $200 cash. That's growth, but not compound growth. The growth rate is a constant $100 per month.

Example (compound growth): If that $100 gets reinvested (let's say in another, identical, bond) the growth will compound. That is, your dividends will be based on 101 bonds, not just 100. Not only is your portfolio growing, its growth rate is also growing, and doing so because of the reinvestment.

(The above ignores the bond's change in value as it approaches its maturity date. We can pretend it is a perpetual bond which has no maturity date. We are also ignoring the bond's value change as prevailing interest rates change.)
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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by nisiprius » Sat Mar 30, 2019 9:53 am

bertilak wrote:
Sat Mar 30, 2019 9:05 am
...Not all growth is compound growth. To make that distinction is why we even use the qualifier "compound."
If it is a straight line on a semilog chart, or if it is close enough to a straight line that a sane person might think it was worth fitting a straight line, then it is compound growth.

If it is crazy to even think of fitting it, then it is not compound growth.

That's the only definition that makes sense, unless we are referring to the literal calculation of debt interest.

Thus, for example, seal populations showed compound growth from 1920 to 1930, but overall you would probably say "that's not compound growth, it looks more like logistic growth."

Image

On the other hand chart shows two stock mutual funds that were both exhibiting steady compound growth over the time period shown. VHDYX, blue, happens to be a high dividend fund. I assume QQQ pays low dividends. In any case, QQQ was showing compound growth. Regardless of how one analyzes the economic mechanism or reasons for it, "compound growth" is an accurate description of what it did.

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Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by Dominic » Sat Mar 30, 2019 9:14 pm

Cornflakey wrote:
Fri Mar 29, 2019 7:31 pm
willthrill81 wrote:
Fri Mar 29, 2019 7:23 pm
There's nothing special about dividends except that they receive inferior tax treatment in the U.S.

Yes, Virginia, compounding can occur just as easily with stocks that don't pay dividends as it does with those that do. For instance, the compound annual growth rate of Amazon (AMZN), which has never paid a dividend, since January of 1998 has been 28.72%.

I believe that part of the misunderstanding is that some believe that compounding cannot occur if returns are irregular, but that's false.
Thanks for the response. You foresaw my Amazon example as I was writing it!

So given the punitive tax treatment of dividends, would an efficient market not migrate away from encouraging companies to pay a dividend and use their profits to increase market cap so shareholders have the choice of when to pay their tax liability?
Reinvestment (and stock buybacks) increase shareholder equity without incurring tax consequences, so those are superior (except in tax-advantaged accounts, where they are equivalent). In the case where reinvestment is not favorable (the company is in a position where it can't really grow further), then buybacks would suffice.

However, investors often panic when dividend yields drop, and other investors actively seek out companies which issue large dividends. On paper, there's no reason for this. People just like dividends.

Medlabscientist
Posts: 30
Joined: Sat May 26, 2018 12:49 am

Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by Medlabscientist » Sat Mar 30, 2019 10:39 pm

Your stock may not have compounded in the strict sense, but the company you invested in has.

Lets say mcdonalds was worth 4$ a share when you bought it and now is worth $160 a share decades later and paid you no dividends. During those decades the company was opening new stores, expanding to asia and Europe, owning a stake in Redbox/Coinstar, its sales numbers went from millions to billions.

You owned a piece of a company that was worth millions and now own a peice of a company worth billions so you investment did actually compound based on the size of mcdonalds growing as a company.

Thats how I look at it atleast.

MotoTrojan
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Joined: Wed Feb 01, 2017 8:39 pm

Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by MotoTrojan » Sun Mar 31, 2019 12:37 am

staythecourse wrote:
Sat Mar 30, 2019 8:10 am
Ferdinand2014 wrote:
Sat Mar 30, 2019 8:06 am
staythecourse wrote:
Sat Mar 30, 2019 7:41 am
Not to steal the thread, but try to expand on the OP question.

Have always had a math doubt about the difference of investing in gold via ETF vs. physical. If you buy gold at $1200 on x date in ETF vs. physical and then sell it for $1500 on y date is there a difference between the profit? The physical shares of course appreciates to a net of $300, but how about the ETF version? The profit would be whatever the daily price comounded on the day before from x date to y date, no?

Any insight on this would be appreciated as it is a concept my mind can't quite get around.

Good luck.
Gold doesn’t compound. 1 oz today is 1 oz in 1,000 years.
That is my question if gold ETF price today is $1200 and then goes down to $1000 and then up to $2000 doesn't it compound (like any other ETF each day based on the price the day before)? Mind you I am sure I am not using the term compounding correct here. Does my question make any sense?

Good luck.
If it goes to $1000 and then to $2000 then it’s worth $2000; no trickery there. Physical gold would be expected to move just the same no matter the ups and downs, assuming the ETF is well run (expenses will reduce its return some relative to the real thing of course).

Now if it went from $1200 to $1000 to $2000 over decades you could calculate the compound return it achieved from 2 points but it still moves just the same.

You may be getting confused with a daily rebalancing leveraged ETF? Those suffer volatility decay. For example if VOO goes from $1 to $1.1 one day (10% gain) and then back to $1 the next (9.1% loss) it had no return; UPRO however, which moves 3x what VOO does daily, would be worth $1, then $1.3, and finally only $0.945 even though it’s leveraged holding returned to its starting place.

acegolfer
Posts: 1570
Joined: Tue Aug 25, 2009 9:40 am

Re: Can compounding actually, LITERALLY take place on non-dividend stocks?

Post by acegolfer » Sun Mar 31, 2019 6:57 am

staythecourse wrote:
Sat Mar 30, 2019 8:10 am
That is my question if gold ETF price today is $1200 and then goes down to $1000 and then up to $2000 doesn't it compound (like any other ETF each day based on the price the day before)? Mind you I am sure I am not using the term compounding correct here. Does my question make any sense?

Good luck.
Seems to me, you are asking for calculating annualized growth rate. There are 2 popular ways to calculate growth rate. Suppose in your example price goes up to $2000 in 3 yrs.

1. simple
(($2000/$1200) - 1)/ 3 = 22.222%

2. compounding
($2000/$1200)^(1/3) - 1 = 18.563%

18.563% may look smaller but with compounding effect, it has the same growth over 3 yrs as 22.222% * 3 yrs = 66.666%
math: 1.183563^3 - 1 = 1.66666 - 1 = 66.666%

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