Jun 7, 2004|
Dividend stocks - An investment case
Dividend - the dictionary meaning of this word is ‘resultant return or reward'. While this word can be used in various contexts, here we are talking about it in the stock market parlance. In this context, the word can be described as ‘a reward (cash) received by an investor for investing in the stock of a particular company'. This reward, announced by the board of directors, is based on the profitability of the company. Dividend is calculated as a percentage of the face value of shares and is distributed amongst the shareholders. While in a true sense, dividends are the returns investors enjoy for their faith in a particular company's prospects, thanks to various policy measures, practices like dividend stripping are rampantly prevalent. However, we shall not concentrate on such issues in this article, rather we will consider a case for investing in high dividend yield stocks.
Equities by their very nature are a high-risk investment option. But the relatively higher returns, more often than not, adequately compensates an investor for this risky venture of his. However, in equity investments, high yield dividend stocks are relatively safer for investors who have a lower risk taking appetite and for whom, preservation of capital is largely of prime importance. However, investors must understand that this does not mean that high dividend yield stocks are averse to capital erosion, but the downside is generally capped for reasons discussed later.
Before we look at how is an investment relatively safer when invested in dividend paying stocks, let us look at how to calculate the dividend yield of a stock. It must be noted that dividend yield is calculated as a percentage of market price of that stock, while the absolute dividend declared is a percentage of the face value of the share. See the example below:
* Excluding one-time special dividend in case of Infosys
|Price as on June 4, 2004 (Rs)
|Face vale (Rs)
|FY04 dividend declared (%)
|Dividend per share (Rs)*
|Dividend yield (%)
As can be seen in the table above, while the dividend declared by Infosys, both in terms of absolute dividend per share and also in terms of percentage, is way ahead of the others, its dividend yield is the lowest. Thus, it is not the absolute dividend that should be considered but rather than dividend yield that would make a difference as your total investment is total units multiplied by the share prices and not the face value of the stock. In order to understand the importance of dividend yield, consider the example below:
|Amount invested (Rs)
|Shares purchased (approx. units)
|Total dividend received (Rs)
|Return on investment (%)
Another advantage of having fundamentally sound dividend stocks in one's portfolio is the fact that these tend to be relatively stable vis-ŕ-vis the markets and a considerable fall in prices of these stocks is unlikely compared to those which the markets fancy. This is primarily because during times of falling prices, the dividend yields of these stocks become very attractive. As a result of this, the downside in these stocks is limited until and unless there is something seriously wrong with the fundamentals of the company. Moreover, these stocks tend to appreciate with the general markets, though the rise may not be very spectacular. Thus, dividend stocks are a good option for investors with lower risk taking ability and who prefer a steady income with a ‘possibility' of capital appreciation.
However, from an investors' point of view, the ‘total return' on the stock is more appropriate as compared to only the capital appreciation or only the dividend. This is because it is quite possible that that the gains from dividends is more than negated by the fall in the stock price. Considering this factor, below is an example wherein 7 stocks have been selected at random and the total returns arrived at.
Worth a look...
^ CAGR capital appreciation since March 30, 2001 to March 31, 2004
||Total Returns (CAGR)
|LIC Housing Fin.
*Total dividend declared in the 3 years under consideration excld. special one-time dividend, if any
It must be noted that after a company declares dividend, the stock goes ex-dividend i.e. the stock price tends to fall by as much as the dividend declared. This is because the dividend is declared from the companies' profits and thus reduces reserves. Healthy dividend declarations are a good sign indicating that the company believes in sharing profits with the investors and is also confident of growing year on year. However, the negative implication of healthy dividends could be that the company is unable to find suitable opportunities within the company or outside, where the money could have been invested for better returns. Now, while there can be more arguments on both the fronts i.e. dividend paying and non-dividend paying companies, the above table is in a sense an indication of the advantage of divided-based investments. Compare the returns with your fixed deposit returns or any other government instrument and the picture gets much more clearer.
FY04 dividend stocks
However, investing in a dividend story is not just about the dividend yield and the dividend history of the stock. It is also about the fundamentals of the company, its management and the business model. The dividend history of the stock is a good indicator of future dividend declarations by the company. However, an investor must remember - there is always a possibility that the dividend declaration trend might not continue or dividends may be curtailed down if the company fails to maintain its performance. But, part exposure to high yield dividend stocks is always likely to assure the investor of a steady income irrespective of the stock market movements. Dividend stocks may not give astounding returns within a short span of time, but they definitely provide some kind of a hedge against the day-to-day volatility witnessed amongst stocks that are darlings of the market.
To sum it up, high dividend yield stocks could give investors the best of both worlds. If the stock prices surge, the gains would be in the form of capital appreciation. If not, the investor gains from the dividends declared by the company. In conclusion, part exposure to high yield dividend stocks is always likely to assure the investor of a steady income, not to forget the built in upside surprise element!
More Views on News
Jun 10, 2017
Forty Indian investing gurus, as worthy of imitation as the legendary Peter Lynch, can help you get rich in the stock market.
Aug 23, 2017
Mr Market lured investors into believing they'd bitten into a crash. Did you take the bait?
Aug 23, 2017
Nowhere was the darkness deeper than in the nation's capital. There, no light shone. No flicker of awareness...observation...learning...or reflection appeared.
Aug 22, 2017
It's surprising Warren Buffett hasn't warned investors about the expensive stock market? Let us know why.
Aug 22, 2017
Post demonetisation, a cut in bank savings deposits rates was in the offing.
More Views on News
Aug 17, 2017
A small-cap Indian company with high-return potential and blue-chip-like stability is set to supplant the Chinese players in this niche segment.
Aug 10, 2017
Bill connects the dots...between money and growth, real money and real resources, gold and cryptocurrencies...and between gold, cryptocurrencies, and time.
Aug 16, 2017
The IT Sector could be in an uptrend till February 2019. Are you prepared to ride the trend?
Aug 10, 2017
Bitcoin hits an all-time high, is there more upside left?
Aug 16, 2017
Ensure your financial Independence, and pledge to start the journey towards financial freedom today!
Copyright © Equitymaster Agora Research Private Limited. All rights reserved.
Any act of copying, reproducing or distributing this newsletter whether wholly or in part, for any purpose without the permission of Equitymaster is strictly prohibited and shall be deemed to be copyright infringement. LEGAL DISCLAIMER:
Equitymaster Agora Research Private Limited (hereinafter referred as 'Equitymaster') is an independent equity research Company. Equitymaster is not an Investment Adviser. Information herein should be regarded as a resource only and should be used at one's own risk. This is not an offer to sell or solicitation to buy any securities and Equitymaster will not be liable for any losses incurred or investment(s) made or decisions taken/or not taken based on the information provided herein. Information contained herein does not constitute investment advice or a personal recommendation or take into account the particular investment objectives, financial situations, or needs of individual subscribers. Before acting on any recommendation, subscribers should consider whether it is suitable for their particular circumstances and, if necessary, seek an independent professional advice. This is not directed for access or use by anyone in a country, especially, USA or Canada, where such use or access is unlawful or which may subject Equitymaster or its affiliates to any registration or licensing requirement. All content and information is provided on an 'As Is' basis by Equitymaster. Information herein is believed to be reliable but Equitymaster does not warrant its completeness or accuracy and expressly disclaims all warranties and conditions of any kind, whether express or implied. Equitymaster may hold shares in the company/ies discussed herein. As a condition to accessing Equitymaster content and website, you agree to our Terms and Conditions of Use, available here
. The performance data quoted represents past performance and does not guarantee future results.SEBI (Research Analysts) Regulations 2014, Registration No. INH000000537.
Equitymaster Agora Research Private Limited. 103, Regent Chambers, Above Status Restaurant, Nariman Point, Mumbai - 400 021. India.
Telephone: +91-22-61434055. Fax: +91-22-22028550. Email: firstname.lastname@example.org. Website: www.equitymaster.com. CIN:U74999MH2007PTC175407