Should you really be playing the Dividend Yield game?
When Hindustan Zinc declared a record interim dividend of Rs.13,985 crore, it was the biggest payout by any Indian company. The government with 30% stake was the big beneficiary. Over the last few weeks, large PSU companies like Coal India, Hindustan Zinc, REC and BPCL have declared bumper dividends. Probably, a few more could follow before the current financial year ends. The question is; should you even attempt to play the dividend game.
It appears quite simple…
Actually, the dividend game is quite simple. You can take any profitable PSU company and safely assume that they will declare bumper dividends in the coming months. The reasons are not far to seek! The government needs to raise resources without compromising on fiscal discipline. That means relying heavily on borrowings is virtually ruled out. With the divestment process being slow, the government is relying a lot more upon dividends and buybacks to make PSU companies distribute their cash surpluses. For the government it is a double benefit. When the company pays out the dividend; both the dividend and the distribution tax eventually flow to the government. This helps them boost their dividend income as well as their tax revenues. So any profitable PSU company, other than banks, with sufficient cash reserves is likely to be a very ripe candidate for a hefty dividend payout. It is actually a simple game!
How credible is the strategy?
While the dividend strategy does appear to be quite simple, there are a few cautions that you must keep in mind. Firstly, if the dividend leads to a substantial reduction in the cash reserves of the company, it could lead to a valuation de-rating. In case of Hindustan Zinc, over 50% of the cash reserves of the company have already been paid out. Secondly, a dividend is not an additional benefit but it is partial liquidation of the assets of a company. Hence the dividend payout will eventually reflect in the stock price. Lastly, there is something called a typical dividend bear trap. The entire process of taking delivery, getting the shares before record date and receiving the dividend takes time. If the markets turn negative in the meantime, you can actually end up with a loss, even after considering the dividend effect.
So what should investors focus on?
The primary focus should still be on buying and holding on to high quality stocks with solid growth and efficiency stories. High dividend payout stocks rarely get a good valuation and there are numerous examples in the Indian context. The market always rewards companies that plough back their funds to finance future expansion and growth. Dividend game is a good short-term strategy, but over the longer term they rarely are able to create value! ©
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