By Jessica Wee
Dividend stocks are companies that pay out a portion of their profits to shareholders on a regular basis in the form of cash or stocks. Most dividends are paid out on a quarterly basis, but some companies pay out bo-annually or annually.
In years where there is an extraordinary profit from an asset disposal or bumper harvest, they can pay out the profit as a special dividend.
Therefore, the more shares you own, the more your passive income will be which means you will have more to reinvest and you will earn even more through the power of compounding.
Is the effort worth it in picking out dividend stocks? Of course, you need to do some research and invest a significant amount of money if you want this to be a worthwhile investment and align it to your FI/RE goals.
With your effort along with regularly investing money (via Dollar Cost Averaging) into dividend stocks, you will amass a stable side income for the years to come as you enjoy the double income of capital growth and passive income.
Other advantages of dividend stocks:
- Protection against bear market because its business is established and less likely to be impacted by the economic cycles
- Stocks are lower risks as they have proven to have steady cash flows to pay dividends annually
Drawback of dividend yielding stocks includes:
- High entry price (eg: Apple, Alphabet, Maybank)
- Lower capital gains as profits are paid out as dividend instead of being reinvested to grow the business
- Dividend cuts can happen on lower profit years (eg: HSBC HK cancelled its dividend in 2020 to brace for the aftermath of Covid outbreak and retrenchment)
Tips to choose dividend stocks
You need to narrow down the companies to not only the amount of dividend it pays but the trading liquidity and the market capitalisation of the company.
Banks, utilities and Real Estate Investment Trust companies i.e. Maybank, Tenaga, Axis REIT would be the top picks for more conservative investors.
Sometimes high dividend yield may not be good news, so we need to determine the health of a company by calculating its dividend payout ratio.
Take the total dividend payout and divide it by the Company’s net income. If the ratio is >100%, that means the company is borrowing to pay dividends and future dividends are at a high risk of being cut/ lowered.
To calculate the dividend yield of a stock, take the annual dividend payout per share divide by its current share price. The rule of thumb is to invest only in stocks which give you a higher dividend than the current Fixed Deposit rate (~2.3% per annum).
Anyone can take advantage of these investment opportunities. All you have to do is open an account with an online brokerage, go to Rakuten by Kenanga, itrade by CGS CIMB, M+ Online by Malacca Securities, Interactive Brokers (cheapest for overseas trading)
Once a company has announced (declared) its dividend on the Exchange, there will be date of the stock price going ‘Ex’ i.e. Ex-date, trading at a newly quoted price after dividend is deducted from stock price.
Lastly, there will be a dividend payment date to the shareholder. Some investors like to ‘dividend capture’ i.e. buying a stock shortly before the Ex-Date to “capture” the dividend, then selling shortly after.
Dividend Reinvestment Plan (DRP)
When you invest into a dividend stock, there is a DRP which helps you reinvest the dividends automatically so it is best to activate it so that all future dividends will be reinvested automatically.
Same option of DRP is also available for unit trust income funds.
This eliminates all the fuss of studying for stock picking, with a cost of one-off sales charge, annual management fees and performance fees. Some of the more popular funds are the Principal Asia Pacific Dynamic Fund, Principal Global Real Estate Fund, AmAsia Pacific REITs and RHB Asian Income fund.
When you invest in a unit trust income fund, the fund’s realised profit can be distributed as dividends just like in a stock. Assuming that you own 1,000 units of ABC fund with a Net Asset Value (NAV) of RM1.00. The value of your investment is 1,000 x RM1 = RM1,000.
When ABC fund declares a RM0.05 dividend per unit, your entitled dividend will be: 1,000 units x RM0.05 = RM50
After declaring the RM0.05 dividend, the NAV of ABC fund will be adjusted to reflect the dividend payment ie, ABC fund NAV would be RM0.95
Your investment value after dividend payment would be 1,000units x RM0.95 = RM950. You will get back the same value of your investment before the dividend is received.
Whether you decide to invest in a dividend stock or an income fund, start small and most importantly, start soon to avoid your money losing its value to inflation.