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Except you can elect to take the dividends but not the capital gains distributions. We don't know if the OP's friend is taking both types or not.
That's true, I just figured most people don't really know the difference, so I wouldn't expect them to differentiate dividends from capital gains in mutual funds.
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Originally Posted by MLSFan
i dont see mutual funds like that, the thing you "buy" is the mutual fund company's investment product. what funds they own is merchandise to them and not you. those positions were never owned directly by you
like how when you buy apple stock, you do not directly own all the iphones in the warehouse. so apple is free to sell as many iphones as they want. the distribution from that income is what you are getting, they dont distribute iphones to you.
i see it that way when i buy an index fund, i buy vti and whatever stocks they include in the fund is their inventory. if i didnt like that inventory, i buy a different fund. what they do with the inventory is a business decision at this point and not an investment decision in regards to turnover inside the fund
anyhow, i dont see turnover distributions as touching the principle so much as business decision on part of the mutual company. your dealings with the company has not changed itself
You can see at the bottom the long term capital gain of 1.2889 on 12/21 was distributed to the owner of the share(s), which is separate from the dividend income.
That's true, I just figured most people don't really know the difference, so I wouldn't expect them to differentiate dividends from capital gains in mutual funds. .
You may be right, but I think it's better to clarify and get the details, if possible, than assume.
The principal is a little hard to identify. Is it the dollar amount of the initial investment? Is it the inflation-adjusted dollar value? Is it the number of shares originally purchased? It is ambiguous.
I would explain it this way:
- Yes, he/she is earning an income off of his investment.
- That income is roughly proportional to the current value of the investment (but only roughly)
- The current value is likely to be different than the initial value. It might be less, it might be more, or it might be the same. It depends on the company and on the stock market.
- Given the above facts, it is impossible to know whether he/she will be making the same amount of money in 10 or 20 years.
- Similarly, it is impossible to know if the income keeps pace with inflation.
I told my friend about when I owned an ETF and a Mutual Fund that mirrored the S&P 500. They both paid a dividend four times a year. Their dividend yield was about 2% a year so each dividend payment was about one-quarter of one percent of the value of my investment.
One day I noticed that the stock market (S&P 500) that day was basically flat. But my Mutual Fund had dropped significantly in value that day. I thought, "how can this be, the mutual fund mirroring the s&P 500 dropped significantly on a day the market was flat. Eventually, I figured it out. The Mutual Fund had paid a dividend that day so the value of the investment's price had fallen about the amount of the dividend.
This told me the dividends were not like interest but essentially a forced distribution of where I held the same number of shares but the price of the investment went down the same as the dividend payment. If I reinvested the dividend, the investment is a wash. If I pulled it out and sent it to my bank account, it is a loss.
Mutual funds are valued each day based on their net assets. You'll see NAV (net asset value) reported on a per-share basis. Basically at the end of each trading day they add up the value of all securities plus all of the cash, and divide by the number of shares outstanding. If the company makes a distribution of any sort, that is a debit from the fund's asset value, and there is a corresponding downward adjustment in the NAV as you have noted.
Dividends are fine, but what really matters in the underlying company's business(es). A stock can be a valuable investment if the underlying company sells products and/or services at a profit, and then does sensible things with those profits. One possibility is to use some of the profit to pay a dividend. Of course there are other sensible things that can be done with the profits. Many large companies do pay a dividend, either because of institutional pressure, or an admission that they can't use all of the profits to sensibly expand the business, or perhaps a bit of each.
Perhaps the funds are specific funds that invest in dividend paying stocks.
Maybe, but most mutual funds that invest in stocks pay some form of dividend. The growth stock funds pay the least. The funds with high expense ratios don't pay much, either, because they have to take the expense ratio from the dividends first, before they dip into capital.
A dividend payment is always accompinied by an equal drop in value of your invested dollars.
If you had 100k and got a 3% dividend then you start out of the gate with 97k being compounded on not the 100k you had the night before. By exchange rules all values have to be reduced by the payout amount.
So you had 100k invested of your money. They handed you back 3k and reset your dollars to 97k at the open. News flash ,that is your principal being spent and out of the 100k you gave them market action is compounding on 97k.
If you reinvest the 3k you have the same dollars compounding you had the night before.
If you spent the 3k than market action starting at the open is on 97k not 100k anymore.
Pulling the same dollars out of a portfolio that is only based on growth that saw the same total return as the dividend payers would have an identical balance .
In fact it may be worth more in after tax cash flow since the entire distribution would get taxed on the dividend payer. Pulling it from growth funds only gets taxed on the gains.
Pulling money out of your investment value whether as a dividend or selling an equal piece of the gain is spending your money.
There may be some tax or transactional cost differences some better some worse but markets don't care how you generate your income assuming the same total return.
You can draw off the same amount in all cases and have the same balance whether dividends only , growth only or a combo.
Think about it 30 years ago 100k in the growth model i use is 2.2 million today. Do you really think if i spend down half my portfolio i am not spending principal.
Last edited by mathjak107; 04-24-2017 at 05:58 PM..
I don't know if this works for mutual fund dividends, but ordinary qualified dividends are tax free if the individual income is below $38K.
Of course this isn't an option for Mathjak as he couldn't survive on $75k for a couple.
Dividend stocks have done well for me but don't let that get in the way of a righteous display of mansplaining. (see above)
Sorry, I don't know enough about mutual fund distributions to answer the OP's question. It does seem that living off the dividends calculated from the funds stated portfolio would meet the definition of not touching principal.
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