What is it?
Dividend stripping is the process of buying a stock and selling it after it goes ex-dividend. The objective is to capture the dividend with the objective that the dividend (plus franking credits) exceed the losses incurred in holding the stock. Of course the stock makes a profit that is a bonus!
On 19 Dec 2011 I buy 1,000 TLS @ $3.23. Total cost $2,230 + brokerage.
On 13 Feb 2012 the stock goes ex a 14c dividend.
On the same day I sell my stock @$3.23. I’ve broken even on the stock, collected a dividend of $140 and collected $60 of franking credits which will reduce my tax when I lodge my return (note to get the franking credits I’ve had to meet the ATO’s 45 day rule … google for details). I’ve ignored costs in the is example. Note a breakeven is not guaranteed (YMMV).
In the good old (pre-GFC) days, dividend stripping was easy …. a rising market meant that the stock could be often be sold for about breakeven, leaving the dividend as pure profit! Given that some larger stocks can yield up to 10%pa including franking), this meant an easy profit of about 5% in 45 days (or 40% annually) with minimal risk!
What about now?
Unfortunately dividend stripping in general no longer works particularly well … it was a definitely a strategy for a bull market. A reasonably analogue is flipping residential property … most of the profits come from the rising market rather than the renovation itself. There are a couple of reasons why its stopped working but the most obvious that in a secular bear market (i.e. the current market), most of the return (actual and expected) is from the dividend. This applies particularly to high yielding stocks. In plain English, this means a lot of people are pretty stoked to get a total return of say 10-13% and gains above this level are arbitraged away.
My next post will look at how to trade for profit around dividends in the new environment.
PS None of the above is financial advice. Consult a professional before investing or speculating.