Passive Income: The Dividend Snowball (2024)

Accumulating a portfolio of dividend-paying stocks certainly has its benefits. Not only do they provide income to shareholders regularly, but the shares themselves also tend to increase in value over time. In fact, since 1926, nearly one third of the S&P 500’s total return has come from dividends alone. When you combine the power of untethered growth with consistent distributions, you can expect your holdings to grow exponentially, creating a phenomenon called the dividend snowball. And since this entire process can be completely automated, it’s the perfect setup for hardworking nurse practitioners who are looking to create a future passive income stream.

What is the dividend snowball?

The dividend snowball is a process for reinvesting the dividends you earn from assets like stocks, ETFs, and REITs. Essentially, you take the distributions you’ve made from these securities and use them to buy up more shares. Purchasing more shares means earning more distributions. So with each new round, you add another layer of value to your holdings.

Over time, your portfolio compounds like a snowball rolling down a hill. Eventually, the snowball’s size multiplies several times over where it originally started—far beyond those who choose not to reinvest their dividends.

The dividend snowball goes by other names such as the more commonly used term DRIP: dividend reinvestment program. However, DRIPs were typically stylistic of loyalty programs where investors bought stocks directly from certain issuing companies (usually blue chips) and then reinvested the dividends with that same company at a discount. This was before trading apps like Robinhood leveled the playing field with $0 commissions and fractional shares.

Today, the dividend snowball essentially builds upon the same process as a DRIP. However, it can be used with multiple types of securities and spread over an entire portfolio of your choosing.

How Does the dividend snowball Work?

To get a good feel for how the dividend snowball method works, it helps to see it in action. For this, let’s turn to a helpful online dividend calculator such as this one from Tip Ranks.

To get started, let’s use the following assumptions:

• Our initial investment will be $12,000 (120 shares of a fictitious $100 stock)
• We’ll invest for 10 years
• That stock will pay a 3% dividend yield on a quarterly basis
• Each following year, we’ll invest another $12,000 per year ($1,000 per month) into the same stock
• The dividend growth rate of our investment will be 5%
• The share price of the stock itself is also expected to appreciate by 7% year over year

Taking all of that into account, what would our portfolio look like both with and without reinvesting the dividends at the end of this 10-year period?

• Reinvesting the dividends = $237,582
• Not reinvesting the dividends = $189,403

By simply turning those dividends around to scoop up more shares of the stock, you will own a greater amount of an appreciating asset. After this short time, we have over 25% more, thanks to the dividend snowball method. What would happen if we continued to repeat this process for another 10 years?

After 20 years of investing, we’d have:

• Reinvesting the dividends = $1,082,522
• Not reinvesting the dividends = $538,382

That’s a whopping 101% greater portfolio just because you reinvested your dividends.

Another advantage this process gives to investors is that it enables them to utilize dollar cost averaging. This is when you naturally buy shares at a discount over time due to the fluctuating nature of market prices. Statistically, because you’re buying new shares so often with your dividends, you’ll most likely acquire them at good price points as they are on the rise to new historically high prices. Hence, this will help your portfolio to appreciate in value.

How do I start?

This strategy can be implemented at most online brokerages or trading apps of your choice. Many of them have the ability to take your latest dividend income and spread it across your entire portfolio. This helps you to better maintain a good asset allocation.

For the long-term investor who wants the maximum earnings potential, I’d strongly recommend building out your dividend snowball portfolio into a tax-advanced retirement savings account such as a 401(k) or Roth IRA. In particular, the Roth will be an excellent choice since all of the money you’ll ever earn will be free of taxes after you reach age 59-½.

No matter which type of retirement account you choose, they will still give you the ability to collect and reinvest dividends without having to worry about reporting those distributions to the IRS each year. Plus, if you decide to rebalance your portfolio or change which assets you hold, you won’t get hit with any capital gains taxes. Retirement plans take away the hassle of tracking your investments so that you can focus on what’s really important—making money!

However, if you need the money sooner than age 59-½ and don’t want to mess around with a retirement account, then a standard brokerage account will work too. Just remember that you’ll have a little more reporting to do on your income taxes at the end of the year.

The dividend snowball strategy works to achieve growth and earn passive income. For doing nothing more than buying quality assets, all anyone has to do is just be patient as their portfolio experiences compound growth. Meanwhile, this gives them time to focus on other smart money-making strategies like growing their nurse practitioner business, pursuing their ambitions, and living a full life. You can’t get more passive than that!

• Elite NP
• July 23, 2024
• 2:12 pm
• 2 Comments