The price chart shows half of what a dividend-paying share earned; the other half has to be added, and dated.
Total return is the change in price plus every dividend received, divided by what you paid: (sale price − purchase price + dividends) ÷ purchase price. Buy at 45.00, collect 5.04 a share in dividends over three years and sell at 52.00, and the total return is 26.8 per cent, or 8.2 per cent a year, against a price return of only 15.6 per cent. Reinvest the dividends as they arrive and it rises to 28.1 per cent, 8.6 per cent a year.
Worked in full in Stock Market Investing for Beginners by Julian R. Sterling, with every figure reproduced in a free workbook.See the book on Amazon →
The price chart on a broker's screen shows only half of what a dividend-paying share earned. Over long periods dividends have been a large part of what shareholders received, so judging a holding, or comparing it with an index fund, on price alone understates it, sometimes by most of the return.
| Input | Value |
|---|---|
| Shares bought | 200 |
| Purchase price | 45.00 |
| Cost of the holding | 9,000 |
| Quarterly dividend, year 1 / 2 / 3 | 0.40 / 0.42 / 0.44 |
| Sale price after three years | 52.00 |
| Sale proceeds | 10,400 |
The dividend is 1.60 a share in the first year, 1.68 in the second and 1.76 in the third: a yield of 3.6 per cent on the purchase price rising to 3.9 per cent as the company raises its payout.
(52.00 − 45.00) ÷ 45.00 = 7.00 ÷ 45.00 = 15.6%. On the holding, a gain of 1,400.
Dividends per share = 4 × (0.40 + 0.42 + 0.44) = 5.04. On 200 shares, 320 + 336 + 352 = 1,008.
(7.00 + 5.04) ÷ 45.00 = 26.8%. The holding cost 9,000 and returned 10,400 + 1,008 = 11,408, a profit of 2,408.
Annual total return = (1 + total return)1/years − 1 = 1.26761/3 − 1 = 8.2% a year
Excel: =((Sell-Buy+Divs)/Buy+1)^(1/Years)-1
Annualise by compounding, not by dividing. Dividing 26.8 per cent by three gives 8.9 per cent a year, which overstates the result because it ignores that each year's gain builds on the last. The difference is the same one explained in how to calculate CAGR, and why it is lower than the average.
The simple formula treats all 5.04 of dividends as if they arrived on the day you sold. They did not: the first came three months after purchase. Money received earlier is worth more, and there are two ways to give it credit.
| Measure | Treatment of dividends | Total | A year |
|---|---|---|---|
| Price return | Ignored | 15.6% | 4.9% |
| Simple total return | Added, undated | 26.8% | 8.2% |
| Dividends reinvested | Used to buy more shares each quarter | 28.1% | 8.6% |
| Internal rate of return | Dated cash flows, not reinvested | 8.6% |
Reinvested. If the price drifts steadily from 45.00 to 52.00 and each quarterly dividend buys shares at that day's price, the 200 shares become 221.71. At 52.00 they are worth 11,529, which is 121 more than selling the 200 shares and holding the dividends as cash. This is the figure an index provider calls a total return index, and the one to use when comparing a share with a fund that reinvests automatically.
Dated. The internal rate of return of the actual cash flows, minus 9,000 at the start, then twelve quarterly dividends, then 10,400 at the end, is 2.085 per cent a quarter, or 8.6 per cent a year. In Excel, =XIRR(Flows,Dates) does this directly from your broker's statement.
Which one to report? For a single buy and sell with no dividends taken out, the reinvested figure is the honest one. For a holding where you added money or spent the dividends, use the dated IRR: it is the only one of the three that knows when the cash moved.
| Sale price | Price return | Total return | A year |
|---|---|---|---|
| 40.00 | −11.1% | 0.1% | 0.0% |
| 45.00 | 0.0% | 11.2% | 3.6% |
| 52.00 | 15.6% | 26.8% | 8.2% |
| 58.00 | 28.9% | 40.1% | 11.9% |
Read the second row. A share that ends exactly where it started has a price return of zero and a total return of 11.2 per cent. Read the first: an 11.1 per cent fall in price, which looks like a loss on any chart, is fully covered by three years of dividends. In the base case dividends supply 41.9 per cent of the profit, and at a sale price of 58.00 they still supply 27.9 per cent.
Measure a share by everything it paid you, dated when it paid it. Here the price says 15.6 per cent and the holding actually earned 26.8 per cent, 8.2 per cent a year before reinvestment and 8.6 per cent with it. The long-run version of the same arithmetic is in how much reinvested dividends add, and the free workbook on compounding and costs is on the Stock Market Investing for Beginners companion page.
It can be measured either way. Simple total return adds the dividends as cash; a total return index assumes each dividend buys more shares on the day it is paid. In the worked example the first gives 26.8 per cent over three years and the second 28.1 per cent, because the reinvested dividends grow into 21.71 extra shares.
Price return is only the change in the share price. Total return adds every dividend received. A share bought at 45.00 and sold at 45.00 three years later has a price return of zero but a total return of 11.2 per cent, 3.6 per cent a year, if it paid 5.04 of dividends along the way.
Compound it: add 1, raise to the power of one over the number of years, subtract 1. A 26.8 per cent total return over three years is 1.2676 to the power of one third, minus 1, which is 8.2 per cent a year. Dividing by three gives 8.9 per cent, which overstates it.
This article is one calculation from Stock Market Investing for Beginners. The book takes the same case from first principles to the decision, chapter by chapter, and every figure it prints is a live formula in the free companion workbooks.
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