What is Yield on Cost?

One of the most important concepts in Dividend Growth Investing is also one of the most misunderstood.

It's called Yield on Cost, often shortened to YOC.

Many investors spend their time looking at a stock or ETF's current yield.

That's understandable.

Current yield tells you how much income a new investor can expect today.

But Yield on Cost tells a much more interesting story.

It shows how your dividend income grows over time as distributions increase and dividends are reinvested through a Dividend Reinvestment Plan, commonly known as DRIP.

For long-term investors, Yield on Cost is where the magic of compounding becomes visible.

What Is Yield on Cost?

Yield on Cost is simply the annual income generated by an investment divided by the amount you originally invested.

Let's say you invest $10,000 into an ETF yielding 2%.

In your first year, you receive about $200 in distributions.

Your Yield on Cost is 2%.

Now imagine that ten years later, dividend growth and reinvestment have increased your annual income to $500.

Your original investment is still $10,000.

Your Yield on Cost is now:

$500 ÷ $10,000 = 5%

Your investment may still be yielding 2% or 3% to a new buyer, but your personal Yield on Cost has grown dramatically.

That's the power of dividend growth and reinvestment.

Why DRIP Matters

DRIP stands for Dividend Reinvestment Plan.

Instead of taking dividends as cash, those dividends automatically purchase additional shares.

Those new shares then generate their own dividends.

Those dividends buy even more shares.

The cycle repeats over and over again.

This creates what I like to call the "second engine" of dividend growth.

The first engine is the company or ETF increasing its distributions.

The second engine is your growing share count.

When both engines are working together, Yield on Cost can increase much faster than many investors realize.

Tier One Example: VIG

In the DGI Crab framework, Tier One investors focus heavily on growth.

A good example is VIG.

At first glance, some investors dismiss VIG because the yield appears modest.

But that's missing the point.

Tier One investors are not trying to maximize current income.

They're trying to maximize future income.

In this stage, a starting yield of 1% to 2% is perfectly acceptable if the investment can deliver 8% to 10% annual dividend growth over long periods of time.

Imagine investing $10,000 in VIG and reinvesting every dividend through DRIP.

Over time, dividend increases from the underlying companies combine with a growing share count.

Years later, your annual income may be dramatically higher than when you started.

For younger investors with decades before retirement, Yield on Cost growth can become extraordinary because time is doing most of the work.

The lesson is simple:

Don't judge a Tier One investment solely by today's yield. Focus on what the yield can become.

Tier Two Example: SCHD

Tier Two investors still prioritize growth, but income becomes more important.

SCHD is a great example.

Compared to VIG, SCHD generally starts with a higher yield while still emphasizing high-quality dividend-paying companies.

For Tier Two investors, the sweet spot is often around a 3% starting yield combined with approximately 6% to 7% annual dividend growth.

This creates a powerful balance between current income and future income growth.

Suppose an investor purchases SCHD and reinvests every distribution.

Over time, dividend growth increases the distributions paid by the fund while DRIP steadily increases the number of shares owned.

The result is a steadily rising income stream.

Many investors are surprised to discover that after a decade or more, their Yield on Cost can be significantly higher than the yield SCHD currently advertises to new investors.

That's because the investor isn't buying today's income.

They're buying tomorrow's income.

Tier Three Example: DIVO

Tier Three investors begin shifting toward stronger current income while still maintaining growth potential.

DIVO fits that role nicely.

At this stage, investors are often looking for a 4% to 5% starting yield combined with approximately 4% to 5% annual dividend growth.

The goal is no longer maximizing growth.

The goal is balancing growth and income in preparation for retirement.

Because DIVO starts with a higher yield than VIG or SCHD, investors often see meaningful income generation much sooner.

When distributions are reinvested through DRIP, those additional shares create a larger income base.

Even if dividend growth is slower than some traditional dividend growth funds, the higher starting income allows compounding to begin immediately.

For many investors approaching retirement, this balance between current income and future income growth can be extremely attractive.

Tier Four Example: JEPQ

Tier Four focuses primarily on income generation.

One example is JEPQ.

Unlike the previous tiers, the primary objective here is not rapid dividend growth.

The objective is generating substantial income today.

For Tier Four investors, a 10% to 12% starting yield may be appropriate, provided that distributions remain relatively stable over time.

Dividend growth may be flat, but investors should avoid investments with steadily declining income streams.

JEPQ's higher yield creates a unique opportunity.

When distributions are reinvested, investors can accumulate additional shares at a surprisingly rapid pace.

Each new share generates additional income.

That additional income buys even more shares.

The compounding effect becomes very visible.

While Tier Four investments are typically chosen for current income needs, investors who continue reinvesting distributions can still see meaningful improvements in Yield on Cost over time.

Even without substantial dividend growth, DRIP can become a powerful income-generating engine.

The Real Goal of Yield on Cost

Some investors criticize Yield on Cost because it doesn't tell you what an investment would yield if purchased today.

That's true.

But that's not really the purpose.

Yield on Cost measures your personal investing journey.

It answers a very important question:

"How much income is my original investment producing today?"

For dividend growth investors, that question matters. A lot.

Watching your Yield on Cost rise over the years provides tangible evidence that your portfolio is working.

It demonstrates the combined power of dividend growth, reinvestment, and patience.

Final Thoughts from the DGI Crab

Yield on Cost is one of the best ways to visualize the long-term power of Dividend Growth Investing.

The formula itself is simple.

The results can be extraordinary.

Whether you're investing in a Tier One ETF like VIG, a Tier Two ETF like SCHD, a Tier Three ETF like DIVO, or a Tier Four income fund like JEPQ, the principle remains the same.

Reinvesting distributions through DRIP allows your income-producing assets to buy more income-producing assets.

That's the beauty of compounding.

And the longer you give it to work, the more impressive your Yield on Cost can become.

Perhaps most importantly, Yield on Cost helps explain why the DGI Crab framework evolves over time. Tier One investors may accept lower yields in exchange for faster growth, while Tier Four investors prioritize current income. Different stages require different tools, but the objective remains the same: building a portfolio that produces more income every year than it did the year before.