The Hindu Business Line : Fund Talk

Irrespective of the performance of a company's share in the stock market, companies declare dividends periodically. Mutual funds, being large investors, get these dividends. Will the NAV of a fund rise due to the impact of a huge dividend declaration by a blue chip in the portfolio? Is it possible to track the benefit obtained by that particular scheme?

V. V. Ravi Kumar

Dividends received by mutual funds account for too small a proportion of the fund's Net Asset Value to make a difference to your overall returns. Let us explain it this way. First of all, even the high dividend-yielding stocks in the Indian context offer a dividend yield of only 4-5 per cent. That is, the dividends received by the investor amount to 4-5 per cent of the company's prevailing stock price. Typically, no single stock (based on its current market price) can account for more than 10 per cent of a scheme's NAV.

Let us assume, for simplicity, that a fund has an NAV of Rs 100 represented by just 10 stocks accounting for 10 per cent each of the assets. Supposing each of the companies in the portfolio has a dividend yield of 5 per cent. Each stock held in the portfolio would bring in just 50 paise by way of annual dividends. This would total up to just Rs 5, adding just 5 per cent to the fund's NAV of Rs 100! This example is, however, based on the optimistic assumption that a fund's portfolio is made up of stocks offering a dividend yield of 5 per cent each! In practice, such stocks are quite hard to find, given that most well-known companies offer a much lower dividend yield. The average dividend yield for stocks in the Nifty basket, for example, is just 1.1 per cent.

Few Indian funds have a portfolio comprised only of high dividend yielding stocks. In the Indian context, fund managers and investors tend to be much more focused on the capital appreciation delivered by a stock than on its dividend potential. "Growth" companies, or companies that are rapidly ramping up their operations and reinvesting their cash flows in their own business have been the most sought after in the stock markets and have delivered the best returns over the past four years. This preference for "growth" stocks, rather than the liberal dividend payers (which are usually in mature businesses) has meant that equity funds have generated the bulk of their returns from capital gains on the stocks they hold and not from the dividends received on them.

For investors who wish to benefit from high dividend yielding stocks, there are specialised dividend yield funds (such as Birla Dividend Yield Plus, UTI Dividend Yield Fund and Tata Dividend Yield Fund) that select stocks based specifically on their dividend potential. However, even in the case of such funds, dividends may account for no more than 3-4 per cent of the overall returns. These funds may theoretically contain downside risks better than diversified funds; but cannot deliver good returns if stock prices are in the bearish mode.

Aarati Krishnan

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