Ex-Dividend Date: What is it and Why is it Important?
By: Jonathan Wolfgram,
Buying or selling shares of dividend-paying securities either prematurely or late could cause an investor to miss the ex-dividend date and a corresponding dividend distribution that shareholders otherwise would receive.
Such a situation would require a new investor to wait a whole month, quarter, six months or even a year until the next dividend payment. The ex-dividend date is the day that determines whether the seller or buyer of shares receives the next dividend distribution.
Dividend income investors spend time and resources researching securities and equities to find the best investments that fit their strategy, so it behooves them to consider the ex-dividend date when deciding when to buy and sell shares. Investors who use a dividend-capture strategy must be particularly aware of the key dates in the dividend distribution process.
Even investors who plan to purchase and hold an equity for a long time could benefit by receiving an additional dividend payout if they are aware of the ex-dividend date and adjust their purchase timing a few days earlier to meet the dividend eligibility requirement. The dividend distribution timeline has four significant dates: Declaration Date, Ex-Dividend Date, Record Date and Pay Date.
Before discussing the ex-dividend date in more detail, here is some basic information about these four key dates.
Declaration Date is the date the company’s board of directors publicly announces details about an upcoming dividend distribution. The announcement declares the dividend amount, the ex-dividend date, the record date, the pay date and any other relevant information. The declaration date is the least important of the four key dates. Most companies will have a declaration date for every period and some companies will have one declaration date where they will announce all their dividends for next fiscal year. Securities that tend to pay a monthly dividend – such as some real estate investment trusts (REITs) and master limited partnerships (MLPs) – are more likely to declare their dividends for the entire year than companies that pay dividends every quarter based on their quarterly financial results.
Ex-Dividend Date, also known as the ex-date, is when the security’s trading price is reduced by the amount of the upcoming dividend distribution. Investors who buy the security on the ex-dividend date are not eligible to receive the current dividend distribution. In case of an ex-dividend day transaction, the seller of the security will receive the dividend payout.
Record Date or Date of Record is when a public company reviews ownership of shares and compiles the list of shareholders who are eligible to receive the dividend for the current period. The record date used to be two days after the ex-dividend date. However, to align its procedures with the new T+2 settlement period implemented by the U.S. Securities and Exchange Commission’s (SEC), NASDAQ announced the new requirement that the ex-dividend date will be “the first business day before the record date.”. Further information on that change is provided below.
Pay Date or Date of Payment is when the company mails the dividend checks or initiates a direct transfer of funds to the shareholders’ brokerage account. There is no specific requirement when the pay date must occur. However, most pay dates are usually about two to four weeks after the record date. This time delay allows the company to process and prepare the checks for mailing and set up the electronic funds transfers.
The most important among these key dates is the ex-dividend date. The ex-dividend date is used as the sole basis to determine who will receive payment of an upcoming dividend distribution. The SEC’s requirement is that an investor must be included in the company’s list of shareholders, which is compiled and finalized as of the company’s record date, to receive the dividend. Since it is assumed it takes two full days to clear all transactions, an investor must purchase the security one day before the ex-dividend date to be a shareholder of record on record day and, therefore, obtain the dividend payout.
The reason for the two-day delay is that the United States exchange markets operate under the T+2 system for the settlement of stocks. This delay used to be T+3, but, effective September 5, 2017, the SEC implemented the new two-day requirement.
The T+2 means “trade day plus two days”. This system assumes that two full business days are necessary to fully process a transaction. For example, if a security is purchased before closing on a Monday, that day is considered the trading day. Therefore, the transaction must be fully processed by the end of the day on Wednesday, which is the second full day after the trading day. Similarly, Tuesday’s and Wednesday’s transactions must be processed by Thursday and Friday, respectively.
For securities that are traded on a Thursday, Friday is the first full day. Since Saturday and Sunday are not trading days, Thursday’s transaction must be processed by the end of Monday, since Monday is the second full trading day. Analogously, all trading that occurs on a Friday must be processed by the end of Tuesday.
When is the Ex-Dividend Date?
The ex-dividend date is set in relation to the record date. The long-standing rule that the ex-dividend must be two days prior to the record date has been changed to align with the new SEC policy of a T+2 settlement period that came into effect on September 5, 2017. The new requirement is that the ex-dividend date must be one business day prior to the record date.
Therefore, a company’s board of directors will pick the record date, which will determine shareholder eligibility to receive the dividend payout. Subsequently, the ex-dividend is set for the day prior to the record date and announced to the shareholders.
The term ex-dividend literally means “without dividend.” The reason for that is that the share price of the security is reduced or marked down by the amount of the declared dividend on the ex-dividend date. Therefore, the share price at the opening of trading on the ex-dividend date is the closing price from the day before, without the declared dividend amount – or ex-dividend.
Theoretically, the share price should drop by the full dividend amount at the beginning of trading on the ex-dividend date. While stock prices will usually drop by the exact dividend amount on the ex-dividend date, that is not always the case. During normal business, the traders will price the declared dividend distribution into a stock’s price. Share prices tend to rise in the leadup to the ex-dividend date. Therefore, any investors looking to buy a security shortly before the ex-dividend date and sell quickly after the ex-dividend date usually find it difficult to turn a quick profit.
Whether investors are looking to take a long position in a stock that pays rising dividends over an extended period or are trying to capture dividends by trading frequently, knowing the ex-dividend date is crucial in timing the transaction to maximize returns.
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