Direct Investments in Securities: A Primer

Abstract

Direct investment plans (commonly known as DRIPs) let investors bypass traditional investment channels and avoid problems such as high transactions costs and the relatively large dollar amounts necessary to purchase certain assets. While no one expects these plans to answer all of the modern investor's needs, DRIPs probably appeal to the buy-and-hold clientele seeking the lowest possible transactions costs.

This article discusses DRIPs and describes how the financial services industry has evolved to meets the needs of the small investor. The author identifies the remaining limitations on this sort of investment, noting that mutual funds continue to offer convenience and unmatched diversification for small accounts. He then presents reasons why companies might offer DRIPs. For example, companies that face political or regulatory scrutiny may want a broad, stable ownership base. Such shareholders also tend to vote with management, offering potential as a takeover defense. Finally, a broad ownership base provides opportunities for cross-selling.

The article also identifies empirical differences between companies that offer DRIPs and those that do not. The analysis shows that large companies, more mature companies, and companies in industries that are subject to relatively high levels of regulation are more likely to offer the plans.

Finally, the discussion speculates about the future of direct investments. One obvious tool for DRIP investors is the Internet. Broker-run DRIPs provide another evolutionary direction.

JEL Classification: G10, G19, G20, G24, G35