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Would you like your Stocks to become Fixed Deposits?

May 9, 2015

In this issue:
» Foreign investors turn net sellers in May...
» Geithner: US' performance in many ways is the envy of many countries
» A round up on markets...
» and more....


00:00
The past few months have been good. Even as a retail investor, you would have made money in stocks. And even the relatively safe bets on stocks or large bluechip companies have offered healthy returns. But the confidence to make money in stocks was absolutely absent until February 2014. I remember my friends and family telling me that they would any day prefer putting money in FDs and post office saving schemes rather than in stocks.

And despite explaining the basic concept of inflation eating into their real gains, they were still okay with the 8% to 9% pre-tax returns on their 'safe' investments.

"Share bazaar mein bahut jhol hota hai", "Stocks ka bharosa nahi" or for that matter "I don't understand the stock markets" were the usual responses that I used to get back then.

That the same people are now interested in putting money in stocks is another matter altogether; in fact this is a topic that was covered a while back. The key takeaway is that the best returns that investors can earn is by buying into stocks when the outlook or sentiments are dull. In other words, when the valuations are attractive. This approach been proven numerous times in the past and is something that will continue in the future as well.

In any case, with markets being the way they are now, one approach that is likely to gain importance is that of 'dividend investing'.

Why?

Well... simply because stocks with strong expected dividend payouts, good yields and good growth prospects tend to provide a good amount of downside protection. And this is something that investors would be looking out for when sentiments turn jittery. After all, dividends are real and difficult to manipulate as they are directly paid to shareholders. Thus, if the firm announces a certain dividend payout, it ought to be real!

The ultimate aim essentially would be to curb the downside - an important approach to outperforming the market over long periods.

Now... wouldn't it be interesting to try and combine both the approaches discussed above? Good, safe returns in stocks, coupled with protection on the downside.

Take a look at the table below to get a better understanding of this...

Dividend yields and growth rates required to turn Stocks to FDs
  Yield 5-yrs down the line Yield 10-yrs down the line
Current yield/growth 5% 10% 15% 20% 25% 30% 5% 10% 15% 20% 25% 30%
1.0% 1.3% 1.6% 2.0% 2.5% 3.1% 3.7% 1.6% 2.6% 4.0% 6.2% 9.3% 13.8%
2.0% 2.6% 3.2% 4.0% 5.0% 6.1% 7.4% 3.3% 5.2% 8.1% 12.4% 18.6% 27.6%
3.0% 3.8% 4.8% 6.0% 7.5% 9.2% 11.1% 4.9% 7.8% 12.1% 18.6% 27.9% 41.4%
4.0% 5.1% 6.4% 8.0% 10.0% 12.2% 14.9% 6.5% 10.4% 16.2% 24.8% 37.3% 55.1%
5.0% 6.4% 8.1% 10.1% 12.4% 15.3% 18.6% 8.1% 13.0% 20.2% 31.0% 46.6% 68.9%
Data Source: Equitymaster

The table above, I believe is quite a powerful one.

It shows the current yields on the left column and the growth in the same (in the rows). And the corresponding cells show the yields the stock would provide five and ten years down the line. The highlighted cells are those which provide returns higher than the yield on the 10-year government security (which hovers at about 8% currently).

What it boils down to is to be able to buy and sit tight over longer periods for this approach to work.

Sure, one may argue that dividends essentially become a factor of growth in earnings and the capital requirements of companies. As such, consistency in dividend as well as company prospects should be considered while picking stocks using this approach. In other words, dividends should not be the sole criterion for investments.

Do you agree that the approach of dividend investing is one that can help curb the downside? Is this an approach you have taken in the past? Let us know your comments or share your views in the Equitymaster Club.

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------------------------------


02:05
 Chart of the day
After investing heavily in Indian equities for most of 2014 and the first four months of 2015, FIIs turned net sellers in the month of May 2015. The reasons for this are many. The Indian economy has not recovered at the pace envisaged. And this has been reflected in the earnings performance of India Inc. Oil prices are rising again. The US Fed is expected to raise rates this year. And the implementation of reforms has been slow.

Is the Modi effect fading out?
* Till May 7, 2015

The outflows also explain the fall in the indices in the last one month since FII movements play a role in influencing the movement in the Indian stock markets. So if not India, where are the FIIs deploying this cash? China is one market that foreign institutional investors (FIIs) seem to be interested in. But are the valuations in that country cheap? Does not really seem so. Indeed, if you compare the valuations for both countries, then China is trading at a higher premium to its 10 year average forward P/E. So whether these investments in China are for a longer tenure remains to be seen.

03:10
Now if you ask Former Treasury Secretary, Tim Geithner, whether there is reason to be worried about the buoyancy in the US stock markets, he will tell you that 'The US is not turning Greece'! According to him, in 2008 everyone thought that the US was going to have a Great Depression. People thought it could have hyperinflation. Or it could turn into Greece. But thanks to the resilience of the economy none of that happened. And hence, Geithner is of the view that compared to the other major economies around the world today, the US is doing better. In fact he thinks that the US' performance in many ways is the envy of many countries. Well, we are no experts in predicting the short term performance of the US economy or stock markets. But one thing that we can say for sure that is the US Fed's ability to print trillions of dollars that makes the economy different from Greece. Else with its humungous debt burden, which the US government is unlikely to be able to service ever, the economy is hardly different from Greece. And therefore it is only a matter of time before yet another crisis hits the US.

03:55
It was a mixed week for global stock markets. The major Asian stock markets ended the week in the red with stock markets in China (down 5.3%) and Hong Kong (down 2.0%) leading the losses. For China, it was the biggest weekly loss in five years, mainly due to concerns over further government measures curbing speculation and the possibility that new stock listings may drain funds from existing equities. Morgan Stanley also downgraded MSCI China index to equal weight from overweight. This was the first downgrade in seven and a half years for the index. Stock markets in Hong Kong took the cues and declined by 2% over the week.

The US stock markets closed the week in the green (up 0.9%) cheering a jobs report that most believe could warrant tightening by central bank very soon. The job report for April showed a creation of 223,000 jobs and an unemployment rate of 5.4%.

The major European stock markets witnessed gains during the week, supported by a more decisive-than expected UK election outcome and US jobs report. In the UK general election, the conservative party came to power. The UK stock markets were up by around 1.4% for the week. The stock markets in Germany and France gained 2.4% and 1.0% respectively over the week.

Performance during the week ended May 08, 2015
Data source: Yahoo Finance

The Indian markets witnessed sell off in the initial part of the week as foreign investors have been selling equities on concerns of tax demands on capital gains made during previous years. However, the markets rebounded sharply on Friday, with BSE-Sensex registering highest one day gain in four months. The rebound is being attributed to short covering and improvement in the sentiments due to the announcement by the Finance Minister Arun Jaitley to form a panel for resolving the Minimum Alternate Tax dispute. Sectorwise, FMCG and IT stocks led the gains while stocks in the banking and consumer durables sector were the key losers. The small cap and mid cap indices lost 1.1% and 1.7% respectively for the week.

04:50
 Weekend investing mantra
"Basically, price fluctuations have only one significant meaning for the true investor. They provide him with an opportunity to buy wisely when prices fall sharply and to sell wisely when they advance a great deal. At other times he will do better if he forgets about the stock market and pays attention to his dividend returns and to the operating results of his companies." - Benjamin Graham

This edition of The 5 Minute WrapUp is authored by Devanshu Sampat.

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1 Responses to "Would you like your Stocks to become Fixed Deposits?"

vikram

May 10, 2015

Good work by the researchers at EM.
Totally agree that healthy dividend payouts downsides the investment risk.
I request the EM team to come out with a list of companies giving handsome dividends consistently
Thank you

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Equitymaster requests your view! Post a comment on "Would you like your Stocks to become Fixed Deposits?". Click here!