Dividend-FD combo give you handsome return
INVESTORS can earn as high a return as 20% per annum by simply investing in shares for dividend and then re-investing those dividends in fixed deposit to earn interest. We made a portfolio of six stocks, which pay higher dividends than the average and then estimated the return —which an investor would have earned if he had invested in these stocks on April 1, 2003, and held on to his investments till April 1, 2009.
The reason why we chose April 1, 2003, as the starting point is that the Bull Run was just about to start then and therefore, prices were very low, resulting in high-dividend yield. And today, we have come full circle as there are so many stocks which are beaten to such an extent that the dividend yield is as high as 10%, in some cases even more.
Assuming that an investor had bought 100 shares each of these scrips, he would have shelled out Rs 29,590 on April 1, 2003.
Exactly after a year on April 1, 2004, he/she would have earned Rs 4,360 just from dividends on these stocks. This implies a dividend yield of as high as 15% (4,360/29,590).
Upon the receipt of dividend cheque, let’s assume that the investor had put the money in one-year fixed deposit, which was yielding 5.5% per annum then. And then, every year the investor kept on rolling his fixed deposit for another year. This is called ‘hybrid strategy’, wherein the income from risky investments (in this case equities) is routed to a relatively less risky investments (in this case fixed deposit).
The sum of Rs 4,360 received on April 1, 2004, would amount to Rs 5,673 on March 31, 2008, if kept in fixed deposit this way. And mind you! We have considered dividends received just for one year.
Similarly, dividend would have been credited to an investor’s account in 2005, 2006, 2007, which can be routed to fixed deposit for three, two and one year, respectively. Obviously, dividends received on April 1, 2008, would not fetch any interest. In five years time, that is at April 1, 2008, this strategy would have yielded a return of Rs 42,564, which is more than the principal itself.
This translates to a whopping 19.5% compound return per year! Pretty close to what the most successful investor of all times Warren Buffett makes. And guess what, we have not considered the capital appreciation at all. The value of 100 shares each of the six stocks in our portfolio stands at Rs 116,555 today. So, the portfolio has become four times in the past five and a half years even after the stock market has corrected by more than 50% this year.
Of course, in the hindsight, giving investment ideas is as easy as throwing darts. And therefore, there is no guarantee that retail investor would make a return as high as 20%.
But what the retail investor must remember is that as the stock market has fallen more than 50% in the past nine months, a number of stocks are available at a dividend yield of 5%.
Don’t simply put the money because the current dividend yield is high. Select the stocks, which have high dividend yield and have high probability of growing their profits in future.
This is most important because if the profit rises, the dividend payment also rises even if the payout ratio remains constant. And when you get the dividend cheque, put it straight in the one-year fixed deposit and keep rolling over these FDs. In few years’ time, you would have recovered your investment through dividend and interest while still holding on to your principal.
INVESTORS can earn as high a return as 20% per annum by simply investing in shares for dividend and then re-investing those dividends in fixed deposit to earn interest. We made a portfolio of six stocks, which pay higher dividends than the average and then estimated the return —which an investor would have earned if he had invested in these stocks on April 1, 2003, and held on to his investments till April 1, 2009.
The reason why we chose April 1, 2003, as the starting point is that the Bull Run was just about to start then and therefore, prices were very low, resulting in high-dividend yield. And today, we have come full circle as there are so many stocks which are beaten to such an extent that the dividend yield is as high as 10%, in some cases even more.
The six stocks, which we have chosen are
- Tata Steel,
- Varun Shipping,
- HCL Infosystems,
- Chennai Petroleum Corp,
- Graphite India and
- Allahabad Bank.
Assuming that an investor had bought 100 shares each of these scrips, he would have shelled out Rs 29,590 on April 1, 2003.
Exactly after a year on April 1, 2004, he/she would have earned Rs 4,360 just from dividends on these stocks. This implies a dividend yield of as high as 15% (4,360/29,590).
Upon the receipt of dividend cheque, let’s assume that the investor had put the money in one-year fixed deposit, which was yielding 5.5% per annum then. And then, every year the investor kept on rolling his fixed deposit for another year. This is called ‘hybrid strategy’, wherein the income from risky investments (in this case equities) is routed to a relatively less risky investments (in this case fixed deposit).
The sum of Rs 4,360 received on April 1, 2004, would amount to Rs 5,673 on March 31, 2008, if kept in fixed deposit this way. And mind you! We have considered dividends received just for one year.
Similarly, dividend would have been credited to an investor’s account in 2005, 2006, 2007, which can be routed to fixed deposit for three, two and one year, respectively. Obviously, dividends received on April 1, 2008, would not fetch any interest. In five years time, that is at April 1, 2008, this strategy would have yielded a return of Rs 42,564, which is more than the principal itself.
This translates to a whopping 19.5% compound return per year! Pretty close to what the most successful investor of all times Warren Buffett makes. And guess what, we have not considered the capital appreciation at all. The value of 100 shares each of the six stocks in our portfolio stands at Rs 116,555 today. So, the portfolio has become four times in the past five and a half years even after the stock market has corrected by more than 50% this year.
Of course, in the hindsight, giving investment ideas is as easy as throwing darts. And therefore, there is no guarantee that retail investor would make a return as high as 20%.
But what the retail investor must remember is that as the stock market has fallen more than 50% in the past nine months, a number of stocks are available at a dividend yield of 5%.
Don’t simply put the money because the current dividend yield is high. Select the stocks, which have high dividend yield and have high probability of growing their profits in future.
This is most important because if the profit rises, the dividend payment also rises even if the payout ratio remains constant. And when you get the dividend cheque, put it straight in the one-year fixed deposit and keep rolling over these FDs. In few years’ time, you would have recovered your investment through dividend and interest while still holding on to your principal.
