Ex-Dividend Date Definition and Explanation explained by professional Forex trading experts the “ForexSQ” FX trading team.
Ex-Dividend Date Definition and Explanation
When you begin to invest in stocks, one of the things you’re going to need to know about is the ex-dividend date, or the ex-date as it is sometimes known. The odds are more than good that many, if not most, of the companies in which you acquire an ownership stake will distribute regular cash dividends at some point in the future. What is the definition of the ex-dividend date? Why should you care and how does it influence your stocks?
You’ll learn all of that, and more, in this article as I walk you through this concept.
What Is the Ex-Dividend Date?
You might think that when a company’s shares are traded over-the-counter or on a stock exchange, it could become a thorny legal question to determine who is entitled to an upcoming dividend – the seller who owned the stock at the time the dividend was announced or the new owner who now holds ownership when that dividend is actually paid. These days, it’s not a big deal at all. No matter how quickly shares trade hands, or how many owners hold a stock between the date the dividend is announced and the date it is actually sent out in the mail or direct deposited, through a series of cultural and legal practices that have developed over time, the United States has settled upon a multi-date system that takes the guesswork out of the equation. One of these dates is called the ex-dividend date.
To help you understand it, it might be easiest to walk you through the process.
First, a company generates a net profit by selling goods or services for more than it costs to manufacturer or source, distribute, sell, install, and service.
Next, to reward the owners who have risked their capital by investing in the business, the board of directors, elected by stockholders to represent them, votes to take some of the profit and send it out as a cash dividend.
The board of directors decides how much cash the firm can afford to pay after accounting for things like expected debt servicing obligations, expansion plans, and more. This is the reason a lot of young, high-growth firms pay no dividends (the directors and management want to plow as much money as they can back into new factories, new store locations, new restaurants, hiring more people, or whatever it is they need to continue succeeding) and a lot of mature businesses pay considerable dividends (these firms have reached a certain market saturation point and it’s more rational to send excess funds out to owners who can reinvest, save, spend, or donate the money themselves).
A good company tends to have a long-established record of raising the dividend by a rate substantially higher than inflation over many, many decades due to a strong core economic engine that frequently enjoys high returns on capital and some sort of major competitive advantage. For example, The Coca-Cola Company has raised its dividend every year for 54 years. The Clorox Company is expected to bestow upon its shareholders a 39th consecutive dividend increase later this year. Procter & Gamble has paid a dividend for 126 years and is expected to raise its dividend for the 60th consecutive year.
If you hold the stock long enough, and the dividend growth record and/or yield are sufficient, at some point, you will get back more than all of the money you invested. Companies with the best dividend records come to be known as blue chip stocks. Standard and Poor’s has its own list of the best dividend stocks, called Dividend Aristocrats, which have consecutively raised their dividends for 25 years or longer.
At the time the dividend is discussed by the board, four specific dates are scheduled. First, there is the Dividend Declaration Date. This is the date on which the company announces it is paying a dividend, often through a press release on Business Wire and/or by publishing an announcement on its website. On the dividend declaration date, the dividend record date and ex-dividend date are also announced so investors can make plans.
Next, there is the Dividend Record Date. This is the date on which the corporation’s shareholder roster will be frozen for the purposes of determining who is eligible to receive the dividend. If you do not hold shares on the dividend record date, you will not get that specific dividend distribution even if you buy the stock before it is paid out to shareholders.
However, changes to a corporation’s shareholder records take the time to record. The buy and sell information has to be submitted to the transfer agent to make sure the old owner’s shares are transferred to the new owner and the books are current. Otherwise, the wrong person might get the dividend! As a solution, the practice developed to declare a third date, known as the ex-dividend date. In the United States, the ex-dividend date is almost always two business days before the dividend record date we just discussed. This provides the necessary time to get the paperwork and electronic records sorted. In the United Kingdom, the ex-dividend date is no longer two business days prior to the record date but, rather, one trading day prior due to a change in policy that went into effect on October 9th, 2014.
Finally, there is the Dividend Payment date. This is the date when the cash actually shows up for stockholders; the money sitting right there, in your brokerage account or checking account, ready to spend.
A good way to remember this: A company issues an announcement about an upcoming dividend. If you don’t own a stock on the ex-dividend date, you won’t be recorded on the dividend record date and, therefore, you won’t receive the dividend on the dividend payment date.
Note those special dividends, stock splits that are structured as dividends in excess of 25% of the market value of the stock, and certain other distributions may follow different rules or customs depending upon the circumstances. For example, in July of 2015, members of my family had investments in Kraft, which was merging with Heinz to form the new Kraft Heinz Company. As part of the deal, a large cash dividend was going to be paid out to the old Kraft shareholders but rather than an ordinary process, the dividend was tied to the actual merger completion date; whoever owned the stock at the time they were swapped for shares in the new, consolidated enterprise.
What Happens on the Ex-Dividend Date?
The ex-dividend date is extremely important because it becomes the effective date on which the right to receive an upcoming, scheduled dividend changes hands from the buyer to the seller. To be specific:
- If you buy a stock, mutual fund, or other financial security that has declared a dividend before the ex-dividend date, you, the new owner, are entitled to receive that upcoming dividend. That is because the books will be updated with your information prior to the record date so the company will know to send you the money.
- If you buy a stock, mutual fund, or other financial security that has declared a dividend on or after the ex-dividend date, the old owner (the seller) will still receive that specific, scheduled upcoming dividend even though they sold the asset to you. That is because the books won’t have been updated with your information prior to the record date so the company won’t know to send you the money.
To account for the transfer of value that occurs on the ex-dividend date, the quoted value of a stock or other security will typically be adjusted downward by the amount of the expected upcoming future dividend. This makes it difficult or impossible for arbitragers to exploit the timing, extracting wealth that should have belonged to the shareholders. The system has become so efficient, investors who have trades pending (stop, stop limit, and good-until-canceled limit orders, specifically) don’t need to do anything because on the close of trading the day prior, and before the market begins trading on the day of, stock trades that are not specifically designated as “do not reduce” should be adjusted downward by the amount of the upcoming dividend.
A Real World Example of How the Ex-Dividend Date Is Used
On January 4th, 2016, Johnson & Johnson announced that it was going to pay a $0.75 per share dividend for the quarter to its stockholders. The business, which is structured as a holding company with 265 operating subsidiaries manufacturing everything from baby powder and mouthwash to pharmaceuticals, heart stints, and Splenda sweetener, has increased its dividend going on 55 years.
This particular dividend announcement included three important dates:
- The dividend payable date of March 8th, 2016.
- The dividend record date the close of business on February 23rd, 2016.
- The ex-dividend date of February 19th, 2016.
This means you must own the stock before February 18th, 2016 if you want to make it on the books when those books closed on February 23rd, 2016 for this particular dividend. That is the only way you will get the $0.75 per share on March 8th, 2016 when it was distributed. If you buy it after that time, you’ll have to wait until any future dividends are declared to receive one.
This also means that if you sold your shares on, say, February 22nd, 2016, even though you won’t own the stock on March 8th, 2016, you, and not the person to whom you sold the shares, will receive the dividend.
Learning More About the Ex-Dividend Date and Dividend Investing
Although it largely covers the same information, the Securities and Exchange Commission has a special article called Ex-Dividend Dates: When Are You Entitled to Dividends, which can read here. You might also want to check out the following resources I’ve written to help you understand dividend investing:
- Dividends 101 – A step-by-step walkthrough explaining what dividends are, how they work, and how you can make money investing in stocks that pay dividends.
- Determining Dividend Payout – An explanation of why some companies pay dividends and other don’t, and how a board of directors might go about deciding an appropriate dividend policy.
- If a Stock Doesn’t Pay Dividends, How Can It Be Worth Anything? – Some companies do not pay any dividends, yet are still worth a considerable amount of money. How is this possible? Why would an investor put his or her money into securities issued by such an enterprise?
- Cash Dividends vs. Share Repurchases – Some companies prefer prioritizing “backdoor dividends”, or share repurchases, concurrently with, or in lieu of, a traditional cash dividend. Why? What are the benefits? What are the drawbacks? We’ll examine those questions.
Of course, there are many, many more dividend investing articles I’ve written both on this site, which I keep an easy-to-navigate directory as I’ve received a lot of requests to put it all in one place, as well as my personal blog, where I get into more advanced topics not appropriate for new investors. Feel free to check them out when you’re ready to venture beyond ex-dividend dates and into dividend growth investing strategies or other approaches to managing your money.
Ex-Dividend Date Definition and Explanation Conclusion
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