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Stock basicsLevel 2Products7 minUpdated Where does a stock's return come from?
A stock's return comes from two sources: price gains and dividends. Only their sum tells you how the investment really did.
- Which two components make up the total return
- Why a high dividend yield alone doesn't mean a good investment
- How a company's earnings growth carries over into the share's value
Two sources, one measure
A stock's return is made up of price gains (the share is worth more when you sell than when you bought) and dividends (the company pays part of its profit to its owners).
There's no point looking at these separately. The right measure is total return: the change in value and the dividends added together. Otherwise, comparisons easily go wrong.
Total return in practice
Two stocks can look very different on a price chart and still return the same.
On a price chart the companies look very different: A rose 8%, B only 3%. Yet the total return is identical. If you only compare the share price performance, you reach the wrong conclusion about the dividend payer.
Where do price gains come from over the long term?
In the short term, the share price moves with expectations. Over the long term, it follows what the company achieves: growing earnings.
If the company's earnings grow over the years and the market values them at roughly the same multiple as before, the value of the share rises with the earnings. If earnings don't grow, the price gain has to come from the market paying more for the same earnings, which doesn't go on forever.
This content is for information purposes only and should not be construed as investment advice or a recommendation. Investing always involves the risk of losing capital. The value of financial instruments and investments can go up or down, and past performance is no guarantee of future returns.
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