How do you make money from investing in stocks? If you answered – ‘from an increase in the stock prices’ you’re right, but not completely.
There’s one more way to earn money from stocks besides price appreciation – dividends. Dividends are a share of net profit which the company distributes to each shareholder.
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How can dividends give additional stock returns?
For example, you hold 100 shares in company X, which is trading at Rs. 10 this year. Gradually the company’s stock price increases to Rs. 15 in the next year. So you’ve already gained Rs. 5 per share. Additionally, the company also announces dividends of Rs. 1 per share.
|No of shares
|Share Price (year 1)
|Share Price (year 2)
|Current value of investment
|Gains from increase in share price (C)
|Rs. 1 per share
|Total Dividend received (D)
|Rs. 100 (Rs. 1 x 100 shares)
|Total gains (C+D)
A company is not liable to pay dividends but when it does, it can be a sign of a stable and growing business. It usually signals to the market that the company has enough cash to not only invest in its own growth but also distribute the excess to its shareholders.
However, when looking to invest in dividend paying stocks, you shouldn’t make investment decisions based on one-time dividend payout . We must study the consistency and growth of dividend payouts to determine if the company is actually worth investing in.
What’s the idea behind Dividend Stars?
The idea behind Dividend Stars smallcase was to give investors a convenient way to invest in companies that have not cut dividends in the past years and have a high dividend yield. Dividend yield refers to the amount of dividends a company is paying relative to its share price. In the example used above, the dividend yield is 6.67% [ ₹1 (Total Dividends)/ ₹15 (Share price)].
Now that you know all about the basics, let’s understand how we screen the stocks in this smallcase:
- Market cap of companies – All publicly traded companies on the National Stock Exchange of India, covering 90% market capitalization, are considered in the stock screening process. Since this smallcase incorporates stocks with at least 2% dividend yield, the portfolio tends to have a higher proportion of small-cap stocks as those are usually priced lower.
- Dividend growth – Since dividend yield is a function of current share price, it doesn’t capture the entire picture of dividend payouts over the years. That’s why in Dividend Stars smallcase, consistent growth in dividends is also an important criteria for stock selection.
- Dividend yield – Dividend Stars smallcase consists of companies that have maintained an average of at least 2% dividend yield in the past 5 years.
How has this smallcase performed over different market cycles?
From the charts it’s clear that during bear phases Dividend Stars smallcase had a lower drop in returns as compared to Equity smallcap. This has led to quicker recovery in returns during the bull phase and the smallcase has managed to match the return of Equity smallcap.
Who can invest in this smallcase?
Anyone who is looking for an extra cushion in the form of dividends can consider this smallcase.
In a nutshell we can say that companies that provide regular dividend payouts and dividend growth tend to have a stable business model and endure economic cycles better.
Additionally, we understand that sometimes both unexpected external/internal factors can also affect the company’s ability to pay dividends. Hence, we evaluate the stocks in this smallcase annually to check if their dividend payouts are aligned to the criteria that we have laid out above.
However, investors need to consider the fact that pure equity smallcases with a concentration of mid and smallcap stocks has a significant risk in the short term and is only suitable for long-term investors with a higher risk appetite.
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Who manages the Dividend Stars smallcase?
Windmill Capital builds investment products and curated stock/ETF portfolios to help users achieve their financial goals. We offer over 50 smallcases from high-volatility, pure-equity strategies to low-volatility, asset allocation models.