Today I want to discuss briefly about the quest for income generating investments. Many investors have the desire to invest in income generating instruments such as dividend paying stocks.
Here is a particular fund which pays a dividend of 0.4 cents per unit almost every month. If one had bought the fund at the initial price of $1, the dividend yield is approximately 4.8%. The following chart shows the value of the fund assuming $100,000 was invested at the launch of the fund priced at $1 per unit. This chart does not include the dividends which the investors received during the entire period.
However, if you would to invest $100,000 in exactly the same fund but opt for ‘dividends reinvested’ and then manually sell $400 worth of units every month, the following chart illustrates the value of your remaining investment:
If I merged the two graphs together, the following is what it looks like:
As it can be seen, the graphs are almost identical. The fact that both charts look almost identical means:
- The so called ‘dividends’ received from the fund is merely a withdrawal from your own money. It is not something additional. Many investors are attracted to high paying dividend funds and high dividend payout stocks such as REITs but they do not realised that what they received is not something extra. It has always been from their own money!
- In Singapore, there is no tax implication whether you get dividends or prefer capital gains. In other countries, the tax rate on dividends and tax on capital gain are not the same.
- There are savvy investors who still invest in dividend paying funds because they need an instrument which automatically pays them an income to support their retirement expenses. If this is the case, they should first invest in a diversified portfolio of funds without worrying about whether the funds have dividends are not. Once the portfolio is constructed, they can give a standing instruction to liquidate a fixed amount of money every month automatically. Most IFAs (independent financial advisers) already have access to this technology but not using it because there is no commission to earn for arranging for such facility.
It is not wise to focus your funds selection purely based on the fact it pays a regular dividends. These regular dividends paying funds normally invests in high risk investments such as junk bonds, derivatives and highly geared real estate.
This article also appeared on CPF's Are You Ready website: https://www.areyouready.sg/YourInfoHub/Pages/Views_Creating-your-own-payout-portfolio.aspx
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