Dividend Income – Pot of Gold or Reality? 🌈

Dividends are a source of income for equity investors; but many are not interested in the small amounts distributed as dividends and prefer to make a killing buying low and selling high.

Quote by Vivek Chaand Sehgal, Chairman of Motherson Sumi Systems Limited (MSSL), a leading auto ancillary company based in India
Quote by Vivek Chaand Sehgal, Chairman of Motherson Sumi Systems Limited (MSSL), a leading auto ancillary company based in India

Why should an equity investor in India pursue dividend investing?

As per the current IT laws, for a resident individual dividend income upto Rs. 10 lakhs (10 lakhs = 1 mn) is tax free. The companies have to pay a Dividend Distribution Tax (popular called DDT) on the amount they want to distribute to the shareholders; but the dividend income upto Rs 10 lakhs is not taxed in the shareholder’s hands; no double taxation. And here is an opportunity to increase our income, tax free.

Also dividends help diversify your income stream and can help meet shortfall in the interest income under current scenarios of falling interest rates.

Dividend Income can help pay expenses  – fact or fiction?

Consider the tweet below👇. The time horizon mentioned here is 10 years; dividends are real and they can become an income stream.

Source : https://twitter.com/fi_investindia?lang=en
Source : https://twitter.com/fi_investindia?lang=en

The person above is saying that dividend investing is possible and highly rewarding; but then why do some people call it a myth?

[1] Initially the dividends are just a trickle; the income so paltry compared to your salary that you will scoff at them. People find it hard to believe they actually amount to anything or that they can pay off any expense. They may not suffice to pay the EMI every month, but they can help pay your utility bills, shopping and even pay for a vacation.

[2] Equity is considered as an investment strategy for accumulating money over long term and less of an income source. Hence the dividends are reinvested to increase the corpus and boost the rate of return. Nothing wrong with this except that investor and managers are more focussed on the capital appreciation potential rather than the dividend potential.

[3] Corporate India pays low dividends compared to their counterparts. The dividend yield of the benchmark index S&P BSE Sensex is 1.13 % (dividend yield = dividend amount/ share price); you can get higher rates of return from a fixed deposit or other fixed income sources. As per a study by Refinitiv and reported by Reuters on 15 Oct 2019 “Australian stocks led the dividend yields in the region with a ratio of 4.68%, followed by Singapore’s 4.25%. Asia’s average ratio was 2.7%.”

Dividend yield of S&P BSE Sensex as on 5 Dec 2019; Source: BSE website
Dividend yield of S&P BSE Sensex as on 5 Dec 2019; Source: BSE website

# 1 How do you get started?

One way I managed to convince myself of the snowball effect of dividends is to ensure that they are deposited in a separate bank account. This has dual benefits – first the small dividend credits do not get lost among the larger credits like salary in your salary account and second you have a ready reckoner of which companies and which months give you most dividends. At the end of the year, you have a small chunk of money at your disposal. Years of patient accumulation of dividend yielding shares will magically increase the amount waiting for you in your bank account and few years down, from the trickle will emerge a stream.

The dividends are credited to a separate bank account
The dividends are credited to a separate bank account

For dividend investing it is better pick and build a custom portfolio over time. There are individual stocks that offer much higher dividend yield that the BSE Sensex avg. The above is a part snapshot of 2018, I have made changes subsequently, so I no longer hold some shares listed above. But be warned, not all shares in the above pic are good dividend candidates, some are just bad contra picks🙃.

What are the sources of dividend?

There are two that works for me

[1] Direct investing in dividend yielding shares

[2] Investing in equity mutual fund with dividend payout option

#2 Which are the dividend yielding shares?

This requires some homework; there are two broad ways –

[1] You can go by the metrics called Dividend yield and Dividend growth rates to screen out the stocks.  But these companies do not come cheap.

The only pain in dividend investing is the slow pace of the accumulation phase; but the good thing is that when the equity markets are in a downturn, you get to buy these coveted dividend yielding stocks at a bargain. Make your list.

[2] Narrow down on the business that are

[a] not capital intensive ie. they are able to payout most of their net profits to the shareholders, instead of ploughing them back into the business. An example is the brokerage business and one name that comes to mind is ICICI Securities Ltd. (Ticker NSE: ISEC)

[b] can leverage technology to bring their marginal cost of business close to nil. An example is the exchange business and the listed exchanges in India are [1] BSE Ltd (Ticker NSE: BSE) [2] Multi Commodity Exchange of India Ltd (Ticker NSE: MCX) [3] Indian Energy Exchange Ltd (Ticker NSE: IEX)

#3 Which is the equity mutual fund with the best dividend payout option?

You only need one – HDFC Balanced Advantage Fund with Dividend Payout option. The unique features of this fund plan option is that

[1] they have been paying regular dividends every month since 2016 – wow !! the possibility of a monthly dividend

[2] the dividend yield has been constant at 1% of NAV per month – again wow!!😘

Dividend yield of 1% per month from HDFC Balanced Advantage Fund; Source: HDFC Mutual Fund brochure
Dividend yield of 1% per month from HDFC Balanced Advantage Fund; Source: HDFC Mutual Fund brochure

But investors be aware that dividends are not guaranteed by the fund and going forward the fund may or may not be able to replicate it’s past performance.

In dividend investing patience pays !! Happy investing✨

Till next post, take care !!

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