If you thought that stock markets are all about the bulls and the bears, think again! Dog stocks are a good bet to invest in, if you are among those interested in high yields, but without wanting to invest too much time on tracking stock price movements on a regular basis. Simply put, dog stocks are high dividend-yielding stocks. This can be an especially good investment avenue for risk averse investors who fear a 2008-type market crash and are worried about returns on equity investments.
The concept of dog stocks as an strategy for picking stocks is based on a 1982 concept on ‘Dogs of the Dow’, which was eventually popularised in the early 1990’s by Michael B O’ Higgins. The system urges investors to choose, once a year, 10 stocks from the benchmark US index — Dow Jones Industrial Average (DJIA) — that have the highest dividend yield — i.e, the percentage of dividend paid per share of the company divided by the scrip’s market price. The rationale behind using a high dividend yield as a filter for choosing a scrip is that the dividend and not the stock price is a true measure of a company’s worth. Companies that pay high dividends are generally seen as stable and dependable in the long run. Further, if the stock is part of any benchmark index — be it the Dow or the Sensex — it has to be fundamentally good and will weather most market crash.
The investment corpus should be ideally divided equally amongst all 10 stocks that have been picked. Investors can hold on to the stocks for a little more than a year and then re-examine and replace their picks. The strategy has to be repeated for a couple of years at least to get the best returns, as over time the Dogs of the Dow have outperformed even the DJIA.
The Dogs of the Index strategy for investments in equity is also, though not very often, used in India, using the benchmark 30-share sensitive Bombay Stock Exchange Sensex, the BSE 100 or even the National Stock Exchange Nifty Fifty. Apart from this, there are also other options such as dividend yield mutual funds, where investors can limit their direct exposure to such stocks or not even have to put in long hours in choosing these stocks and are still assured of a stable flow of income.
Analysts believe that this can be a good choice for risk-averse investors but must be used on a case-to-case basis. “Companies with strong cash-flows and well-entrenched business models are usually those that have a good dividend track record and strong cash balances. Besides, companies that have managed their cash flows well even in a market slowdown might be the ones to watch out for. Investors can start by looking at dividend-yield stocks that provide an excellent alternative to debt instruments,” said Mayuresh Joshi, vice-president (institution) at Angel Broking.
While warning that investors needs to be careful while selecting high dividend yield stocks as many small companies use this as a lure, Joshi said investors can go in for buying a stock with a dividend yield of six per cent that is better than a yield of eight per cent on taxable fixed deposits, where your taxes reduce the post-tax yield. “But an investor should not forget the risk attached with dividend, as the same can even decline in future years,” he said.
Traditionally, industries like pharma, FMCG, PSU banks, fertilisers maintain a high and consistent dividend payouts. On the other hand, capex-driven companies in infrastructure, construction and real estate are generally inconsistent in their dividend payments, due to their inconsistent business cycle. Blue chip companies such as ONGC, Tata Steel, Hero Moto Corp, Indian Overseas Bank are some of the highest dividend yielding scrips on the BSE and the NSE. Kishor P Ostwal, CMD, CNI Research believes that investors can select such stocks on a case-to-case basis after looking at all aspects of the company. “The exact US model can not be juxtaposed in the Indian scenario,” he said.
Another good option is the newly launched NSE CNX Dividend Opportunity Index that comprises 50 companies that rank within the top 300 by average free-float market capitalisation and aggregate turnover for the last six months. These firms chosen from 24 sectors, including ACC Ltd, Hero Moto Corp and NTPC Ltd, are also amongst the top 50 ranked by annual dividend yield. The index has given an absolute return of 17.3 per cent and 48.4 per cent for one year and three years, respectively.
Apart from having a direct exposure to equity, investors can also choose to go in for mutual funds that invest in a basket of dog stocks. Typically known as Dividend Yield Funds, there are seven mutual funds that currently offer this option and have a combined corpus of R 4,000 crore. Though dividend yield funds were originally launched about a decade ago, they have done especially well and largely outperformed the markets since the 2008 stock market crash. These are a good option for new investors in equity markets who may lack the experience as well as the expertise to pick up dog stocks on their own.
Dhirendra Kumar, CEO, Value Research said, “Dividend yield is a good filter. Such funds they have done well in turbulent times, but they tend to get left behind in good times.” A word of caution for investors, however: If you are looking for quick returns when the markets are booming, this is certainly not an investment option for you. Dividend yield stocks and funds tend to not do as well as other equity options when the markets are on an upswing. But in the long run, or when the markets are on the downturn, these are steady performers. As Kumar pointed out, “These stocks live up to the term ‘dog’ quite literally. They work, but they can also prove to be a test of patience!”