How to calculate Dividend Reinvestment (DRIP)?

A Dividend Reinvestment Plan (DRIP) allows investors to automatically reinvest cash dividends back into the same stock or mutual fund that paid the dividend. Instead of receiving cash, you acquire additional shares, often at a discount, which can significantly boost your long-term returns through compounding.

Conceptually, the DRIP calculation is an iterative process where each period's dividends are added to the principal, and the next period's returns are calculated on this new, larger principal. The general idea can be represented as: Future Value = (Initial Investment + Reinvested Dividends) * (1 + Dividend Yield + Price Growth). This formula is applied repeatedly for each period, demonstrating the power of compounding.

Using the DRIP calculator: an example

Let's walk through a simplified example to understand how the DRIP calculator works and how dividend reinvestment can impact your investment's growth over time.

Step-by-step calculation:

• Initial Investment: $10,000
• Annual Dividend Yield: 3%
• Annual Price Growth: 5%
• Investment Period: 10 years
• Tax Rate on Dividends: 15%

Each year, the calculator first determines the dividends earned based on the current investment value. These dividends are then reduced by the tax rate. The net dividends are then reinvested, increasing the number of shares you own. The total investment value then grows based on the annual price growth, and this new, larger value becomes the basis for dividend calculations in the subsequent year, creating a powerful compounding effect.

• Final Value with DRIP: Approximately $22,000
• Final Value without DRIP: Approximately $18,000
• DRIP Advantage: Approximately $4,000