We get asked this question all the time, and the answer we give most often might surprise you.
In most cases, we suggest not reinvesting dividends. Here's why:
· First, if you need income from your investments, it makes sense to generate some of that income from your dividends. After all, you're going to pay tax on them whether you reinvest them or not. Unless, of course, the dividends are from an investment inside an IRA or 401(k).
· Second, if you have a diversified investment portfolio and want to maintain a certain investment target allocation over time due to changes in market values, your allocation will get out of whack.
We think it's better to use accumulated dividends to reinvest back into your portfolio but not necessarily back into the same investment depending on your need to rebalance your overall investment allocation.
So yes, it makes sense to reinvest dividends but use dividends to rebalance your overall investment strategy to make sure you have the proper diversification of your investment account as time passes by.