The discussion on dividends will cover essential considerations for dividend-based investors, key strategies that can be deployed, and how to maintain discipline. The points explored below are non-exhaustive and are targeted for domestic investors who invest in Singapore-listed companies. There are no taxes on capital gains or dividends, so tax efficiency as a dividend-based investor in Singapore only applies when investing in other jurisdictions, such as the US and Europe.
1. Dividends as a less risky way to invest
One way to view dividends is that payments received reduce the average cost of purchasing a stock. For example, an investor bought a stock for $1.00 and received a dividend of 10 cents per share. The average cost of that stock is now 90 cents, since dividends are considered realised income. Any price above 90 cents would represent unrealised capital gains for the investor should they choose to hold it. This is especially meaningful for long-term dividend investors, who receive dividends over multiple periods that may even surpass the average cost of owning the stock, essentially making the investors own the stock for free.
In the previous example, say the same investor holds the stock for 10 years and receives $0.10 every year. By the end of the 10th year, the average cost for the stock is now $0, eliminating the risk of unrealised and realised losses, assuming dividends are not reinvested into the stock.
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2. Knowing the different dividend dates
The payment of dividends to shareholders typically begins with the declaration date, which usually follows the announcement of the company’s earnings or financial results. This date is when the board of directors declare their intention to pay dividends and usually leads to an upward bump in share price.
Next is the ex-dividend date, which is the first day the stock trades without entitlement to the dividends. If anyone buys the share on or after this date, they will not be entitled to the dividend payments. For example, if the ex-dividend date is Nov 5, then anyone who purchases the stock on Nov 5 or after will not qualify for the dividends. Generally, the price of the stock adjusts downwards on the ex-dividend date to account for the dividends to be paid to the company’s shareholders.
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Following the ex-dividend date is the record date. The record date is the date when the company finalises the names of shareholders who are eligible and entitled to the dividends. This date ensures that shareholders are aware of when they can expect to receive the dividends.
Finally, there is the payment date. As the name suggests, this is the date on which the dividends are paid to the eligible shareholders, as noted on the record date.
3. Take note of dividend periods
Investors should carefully note the frequency of dividend payments. Some stocks pay dividends quarterly, while others pay semi-annually or annually. Some companies even pay dividends irregularly. As a dividend-focused investor, these periods help craft dividend-investing strategies and minimise opportunity cost.
For example, the more frequently a stock pays dividends, the more incentivised the investor should be to hold the stock. The rationale behind this is that an investor needs to hold the stock only after the declaration date and before the ex-dividend date. Suppose a company pays dividends only once a year and the declaration date is predictable (say, after the results announcement). In that case, there is only one date, the ex-dividend date, before which the investor must hold the stock.
On the other hand, if a company pays dividends quarterly and the declaration dates are predictable, then there are four ex-dividend dates that the dividend-based investor must hold the stock before. Hence, the money invested for the sole purpose of dividends does not need to be locked into stocks that pay dividends less frequently, because the opportunity cost would be higher. In other words, dividend-focused investors can carefully plan their investments to buy stocks before either the declaration date or the ex-dividend dates to optimise dividends received from stocks.
4. Be wary of special dividends
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Special dividends are typically one-time or irregular payments of dividends. These dividends are generally unexpected and may be paid for various reasons, such as the one-time sale of a significant asset or windfall profits. As such, although it is expected to cause an upward spike in share price, it is not a reliable or consistent indicator of future performance.
Sometimes, certain companies may appear to have an unusually high dividend figure for the period, and investors should investigate this figure by determining whether it is a regular dividend payment or a special dividend payment. Some companies also have dividend policies, such as the major Singapore banks, which can be identified by studying their financial reports.
Companies which have declared sustainable dividend policies, along with a proven track record of dividend payments, are a much safer option for investors who wish to receive reliable and consistent dividends.
5. Comparing yields as a benchmark
Although companies cannot guarantee the distribution of dividends, as it depends on the discretion of the company ultimately, one of the ways to determine whether it is good enough is to compare the dividend yields against the risk-free rate. The risk-free rate is the expected investment return assuming zero risk, and the closest representation of this is typically the government’s treasury bills, bonds or notes.
The Singapore 10-year government bond yield is around 1.9%, and any dividend yield matching or surpassing this indicates that it is a worthwhile investment, from a dividend perspective. Alternatively, fixed deposit rates can also serve as a benchmark. However, the difference is that the money invested in these instruments will yield a fixed and known return, compared to stocks, which provide both dividends and potentially capital gains through share price appreciation.
6. Examine the financial capacity to pay dividends
If a company’s profits are positive, sustainable, and growing, it should be able to pay dividends, provided it does not have an unhealthy balance sheet to begin with. An unhealthy balance sheet implies that profits earned will likely be spent on clearing financial commitments and obligations, rather than being available to reinvest in the business or pay dividends.
One way to verify this is to examine whether the company has positive and sustainable free cash flow, as free cash flow shows whether, after covering operating and capital expenditures, the cash a company has remaining. This free cash flow indicates whether, after accounting for all necessary expenses, it still has the capacity to pay dividends.
Dividend-focused investors should also exercise caution when considering companies that do not have a healthy amount of cash, a persistently negative free cash flow, negative retained earnings, and substantial debt, yet still pay dividends. One way this is possible is if the company borrows money or takes on additional debt to pay shareholders dividends, which is not sustainable and poses a risk to the company’s solvency.
These six points should serve as a general guide for dividend-based investors or those who wish to incorporate realised investment income into their investing strategy. Also, dividend-focused investors should consider that the company should have good long-term growth prospects as a primary qualifying factor.
Table 1 shows selected Singapore-listed companies that have consistently paid dividends over the past 10 years and have at least $300 million in market capitalisation. This list excludes REITs, which will be discussed in a future issue in the series.
The next part of this series will cover how to be disciplined as an investor and the age-old question of when to sell a stock.
Disclaimer: This article is strictly for information purposes only and does not constitute a recommendation, solicitation or expression of views to influence readers to buy or sell stocks, including the stocks mentioned. Any personal investments should be made at the investor’s own discretion and/or after consulting licensed investment professionals, at their own risk. The author of this article does not hold or own any stock featured in this article or have a vested interest in it at the time of writing.
