Is a cheaper share price better? Does owning more shares lead to greater wealth? These are common questions among beginner investors. Understanding share count is crucial for tackling many investing topics, including retirement planning. This article aims to explain the math behind share count so you can make informed decisions based on your individual circumstances.
Table of Contents
Understanding the Basics: Share Count, Share Price, and Companies
Before exploring how share count affects investment decisions, let’s clarify a few essential terms.
- Share Count: This is the total number of shares a company has issued to the public. When you own shares, you hold a portion of the company’s equity, meaning you participate in its growth (or loss) as a shareholder.
- Share Price: The price of a single share at any given moment, determined by market demand and supply. A lower share price doesn’t mean a “cheaper” company—only that each share is priced differently based on factors like the number of shares issued and company valuation.
- Companies: Corporations that issue shares, providing a way for investors to buy ownership stakes in their business. These companies’ values fluctuate based on performance, market trends, and other factors.
Comparing VFV and ZSP: Does Share Price Matter?
Let’s start with two ETFs that track the same index: VFV and ZSP. As of now, VFV has a share price of $141.97, while ZSP is priced at $87.42. At first glance, ZSP appears more affordable, leading some to believe it’s a better investment due to the lower share price. However, this is a common misunderstanding.
Initial Assumption
“A lower share price means I can buy more shares, which will lead to greater wealth accumulation.”
Consideration
The share price alone doesn’t determine the value of your investment or its potential for growth. What truly matters is the total return, which includes both price appreciation and any dividends or distributions.
For example, investing $1,000 in VFV would buy you approximately 7.05 shares ($1,000 / $141.97), while the same amount invested in ZSP would get you about 11.44 shares ($1,000 / $87.42). Although you end up with more shares of ZSP, the total value of your investment is still $1,000 in both cases.
Both VFV and ZSP aim to replicate the performance of the S&P 500 index. Therefore, their total returns over time are expected to be very similar, regardless of the difference in share price or the number of shares owned.
The Share Count Fallacy
Even when investors understand that share price doesn’t affect total returns in this context, confusion often arises when considering distributions and compounding.
XEQT vs. VEQT: The Compounding Confusion
Consider two all-equity ETFs: XEQT and VEQT. Some investors claim that XEQT is better than VEQT because it compounds faster due to more frequent or higher distributions. However, the total return ultimately depends on various factors beyond just dividend reinvestment frequency or share count.
Initial Assumption
“XEQT compounds faster than VEQT because it reinvests dividends more frequently, making it a better investment.”
Consideration
Owning more shares of a lower-priced ETF doesn’t inherently provide better returns. The higher share count in XEQT is balanced by VEQT’s higher share price. What ultimately matters is the total value of your investment and how it grows over time.
To illustrate this, let’s look at a $10,000 investment in both XEQT and VEQT over a 5.23-year period, with dividends reinvested in both cases:
- Starting Investment: $10,000
- Ending Investment: $17,862.19 for XEQT, $18,438.13 for VEQT
- Total Return: 78.59% for XEQT, 84.41% for VEQT
- Average Annual Total Return: 11.73% for XEQT, 12.41% for VEQT
- Ending Shares: 545.13 for XEQT, 416.46 for VEQT
The graphic below illustrates this concept visually, showing how both investments grew over time. Despite the differences in share price and the number of shares owned, the ending values are very close, with VEQT having a slightly higher total return.
This comparison reinforces that while you may end up with more shares of XEQT due to its lower share price, it doesn’t necessarily lead to a better return. Both funds performed similarly over the period, emphasizing that the focus should be on the overall growth of your investment, rather than just the number of shares or the frequency of dividends.
Dividends vs. Reinvestment
Initial Assumption
“I Prefer More Dividends Because I Don’t Have Extra Money to Invest Right Now.”
Some investors might choose XEQT over VEQT because they receive more frequent or larger dividends, which they believe helps them invest more without adding new money.
Consideration
While it’s true that dividends can be reinvested to purchase more shares, the same concept applies to funds that distribute less frequently or in smaller amounts. VEQT reinvests dividends automatically into fewer shares due to its higher share price, but the total value added to your investment remains proportional.
Visualize it this way: whether you receive $100 in dividends to buy more shares or your investment increases by $100 in value, your total wealth has grown by the same amount. The method of growth—whether through dividends or price appreciation—doesn’t change the end result.
Psychological Comfort with Dividends
Initial Assumption
“Dividends are easier psychologically and provide peace of mind.”
Consideration
That’s a valid point; psychological comfort is an important aspect of investing. However, investing is inherently challenging mentally, which is why so many investment principles emphasize staying steady, even when markets are down.
Additionally, just as some investors find dividends reassuring, others manage risk by adjusting their portfolio’s stock percentage, which may involve reducing volatility or risk. Teaching a well-rounded approach can help beginners understand how different strategies affect risk and potential returns.
Sometimes, lowering risk doesn’t mean sacrificing returns. Still, generally, giving up risk often entails a trade-off in expected returns, which every investor should evaluate individually. It’s about finding the right balance for your own goals and comfort.
Selling Shares in a Down Market
Initial Assumption
“But in one scenario, you have to actively sell shares, which feels more risky and requires more effort.”
Some investors worry that with a lower-yield or non-dividend portfolio, they’ll have to sell shares in a down market to access funds, which feels riskier than receiving dividends.
Consideration
Selling shares to access funds and receiving dividends are financially equivalent if the investments have similar expected total returns. In both cases, you’re reducing your ownership stake—either by selling shares or by the company distributing cash that could have been reinvested.
This concern suggests that more oversight and action are needed for a lower-yield portfolio, overlooking the decisions a dividend-based strategy still requires. Dividend investors also need to decide:
- How to allocate their dividends: Will they reinvest them or use them for expenses?
- Investment adjustments during market fluctuations: Are they comfortable reinvesting dividends in a down market?
Both strategies require active decision-making, especially during market downturns. Assuming that one approach is inherently safer or requires less effort can be misleading.
The Dividend Snowball Misconception
The idea of a dividend snowball—where reinvested dividends purchase more shares, which in turn generate more dividends—seems appealing. However, beginners often overlook a key assumption: that the investment will maintain or increase in value.
Case Study: Walgreens
Consider a dividend stock like Walgreens. Despite its long history of paying dividends, an investor could have accrued many shares over time but still be down in total value if the share price declines.
Initial Assumption
“Accumulating more shares through dividends will always lead to greater profits as the share price recovers.”
Consideration
The belief that accumulating more shares through dividends will always lead to profit relies on the assumption that the share price will eventually recover or rise. This isn’t guaranteed and depends on the company’s performance and market conditions.
Investor Skill and Risk
Initial Assumption
“I know how to choose dividend stocks that will always recover.”
Consideration
Predicting which stocks will rebound is uncertain and requires significant skill and risk tolerance. Even experienced investors can’t guarantee that a company will perform well in the future. Relying solely on dividend accumulation without considering the potential for share price decline can lead to disappointing results.
The Importance of Opportunity Cost
What Is Opportunity Cost?
Opportunity cost is the potential gain you miss out on when choosing one investment over another. It’s not just about making money but making the most of your money.
Why It Matters
Some investors focus narrowly on not losing money or achieving modest gains. However, if your investment strategy underperforms compared to a simple, passive approach—like investing in a low-cost, globally diversified ETF—you’re effectively leaving money on the table.
Over time, this can significantly impact your financial goals, such as:
- Retiring earlier
- Achieving a higher standard of living in retirement
- Reaching financial independence sooner
Evaluating Your Performance
It’s crucial to assess your investment performance relative to other viable options. By not considering opportunity cost, you might feel content with modest returns while being unaware of the greater gains you could have achieved.
Why Academics Suggest a Total Return Approach
Academic research often advocates for a total return approach to investing. This strategy focuses on the overall growth of your portfolio, including capital appreciation and income from dividends or interest.
Key Reasons:
- Flexibility: You can tailor your withdrawals to suit your needs, regardless of how the returns are generated.
- Tax Efficiency: Focusing on total return allows for more strategic tax planning, especially in taxable accounts.
- Diversification: You’re not limited to income-producing assets, which may allow for a more diversified and potentially higher-performing portfolio.
Retirement Withdrawal Strategies: A Complex Landscape
While dividend or yield strategies might seem to naturally align with retirement goals, achieving financial freedom requires a nuanced understanding of different withdrawal strategies.
For a comprehensive guide, consider reading A Guide to Retirement Withdrawal Strategies by Vanguard. The article discusses how dynamic spending—which requires adjustments based on market movements—is now believed to be one of the most effective approaches.
Why Dynamic Spending?
- Adapts to Market Conditions: Allows for spending adjustments during market ups and downs.
- Balances Goals: Helps maintain your lifestyle while aiming to preserve your portfolio for the future.
- Requires Engagement: Encourages regular review and active management of your retirement plan.
Conclusion
Understanding share count is more than just knowing how many shares you own; it’s about grasping how share count interacts with share price, dividends, and total returns.
Key Takeaways:
- Share Price vs. Share Count: A lower share price doesn’t mean a better investment. Total returns are what matter.
- Dividends and Reinvestment: Receiving more dividends doesn’t necessarily lead to greater wealth if the total return isn’t superior.
- Assumptions Can Be Risky: Relying on investments to recover in value is an assumption that may not hold true.
- Selling Shares vs. Receiving Dividends: Accessing funds by selling shares can be equivalent to receiving dividends if total returns are similar.
- Opportunity Cost: Always consider how your investment choices stack up against simpler, passive strategies.
- Total Return Focus: Academics suggest focusing on total return for flexibility, tax efficiency, and potential for higher performance.
By focusing on total returns and being aware of common misconceptions, you can make more informed decisions that align with your long-term financial goals.
Remember, investing isn’t just about accumulating shares or receiving frequent dividends; it’s about maximizing your total returns over time. Always consider the bigger picture, understand the math behind your investments, and choose a strategy that aligns with your individual circumstances and goals.