How to Choose the Best Dividend Yield Mutual Funds

Introduction to Dividend Yield Mutual Funds

Dividend yield funds are not exactly the same as their name suggests. Why so? Because these funds do not pay dividends directly but rather invest in dividend-yield stocks for a more stable income.

Most companies typically distribute dividends on a regular schedule - monthly, quarterly, semiannually, or annually. Mutual funds collect these dividends as income and then distribute them to shareholders periodically.

Why are Dividend Yield Mutual Funds more attractive?

Dividend yield mutual funds invest in equity stocks of companies that issue dividends to its shareholders for a number of time within a financial year. For example, FMCG major ITC is one such company that regularly pays dividends to its shareholders on a particular ex-dividend date.

In India, Mutual funds that are focused on dividend yield are made of a basket of such companies. These funds have a smaller asset under management (AUM) size. But interestingly, dividend-yield mutual funds have given better returns than bigger AUM funds like the flexi-cap mutual funds over the last 3 to 5 years period.

Till February 2024, there were about 1492 stocks listed on the Bombay Stock Exchange (BSE) that have some dividend yield. Out of these 1492 stocks, 431 stocks have a dividend yield of more than 1% and 174 stocks have a dividend deal of more than 2%.

One term that frequently occurs here is: dividend yield - let’s understand what that means

The amount paid as a dividend and the current stock price determine the dividend yield value of a stock. This can be calculated by dividing the dividend paid by a company by its stock price.

For example, if a company has given a dividend of INR 100 in FY '24 and its current stock price is INR 10,000. The calculation would be: (100/10,000)* 100. This gives us its dividend yield which is 1.00%.

Now the dividend yield would change every day as net profit during the reporting year was INR 1,000 crores.

In this case, the dividend payout ratio would be 10%. In other words, the company has distributed 10% of its profits by dividends to its shareholders. Unlike dividend yield, this ratio doesn't change daily; it will change only when the company announces its next profit or dividend figures.

Key advantages of investing in dividend yield mutual funds

Dividend-paying companies are considered to the stock prices move in either direction. In case the stock price appreciates and becomes INR 12,000 and the dividend stays at INR 100 the dividend yield will come down to 0.83 %. On the contrary, if the stock price depreciates and becomes INR 8,000, the dividend yield will rise to 1.25%.

Another related term is: dividend payout ratio - let’s see what that indicates

i)The dividend payout ratio is an important metric and is calculated by dividing the dividend paid in a financial year by the net profit during the same period. Let’s say the total dividend paid by a company was INR 100 crores and the be more stable. For a company to regularly pay dividends it should have sufficient profits so dividends become an indicator of the stability and strength of the business.

ii)Investing in mutual funds that have high yielding holds the potential to multiply its value quicker. Hence, holding good dividend-paying companies for the long-term can add significantly to the investors's returns.

iii)Dividend-paying companies are also believed to be more resilient to market and economic downturns.

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Example: Let's say a company has a net profit of 100 cr and a consistent dividend payout ratio of 10%. Its profits are increasing at 12% annually, and it has 1.0 cr shares in the market. The stock price is growing at 15% per year.

Over 10 years, the cumulative dividend received would be around 177 Rupees per share, which is a 35% return on the initial investment, from dividends alone in addition to the 15% annual stock price appreciation taking the price to 1759 Rupees, which is a 252% growth over a period of ten years.

Here’s a list of the top dividend-yield mutual funds in India based on their AUM size:

Best Dividend Mutual Funds to Invest in 2024

Most of the funds mentioned below are more than 5 years old, excluding the SBI Dividend Yield Fund which is slightly less than two years old. These high yield mutual funds in India have a good track record for consistent returns and value addition over the years.

1.SBI Dividend Yield Fund

The SBI dividend yield fund is the largest in terms of the AUM size. This fund aims to invest at least 65% of its assets in dividend yielding companies, however, it is also open to investing in companies with lower dividend yields but are growing their dividend payout.

2.HDFC Dividend Yield Fund

HDFC Dividend Yield Fund is among the top-performing dividend yield funds in India in 2024. This fund focuses on companies with strong dividend-paying records. Over the years, HDFC Dividend Yield Fund has delivered consistent returns, making it a reliable choice for investors seeking regular income and capital growth. This fund has one of lowest expense ratios among the listed dividend yield funds.

3. ICICI Prudential Dividend Yield Fund

ICICI Prudential Dividend Yield Fund has established itself as a top dividend yield fund in India in 2024. This fund has generated the highest return amongst dividend yield funds in the last 10 years and one of the best in generating consistent return in its category. The expense ratio of this fund is also the second lowest in the category.

4. Aditya Birla Sun Life Dividend Yield Plus Fund

Aditya Birla Sun Life Dividend Yield Plus Fund is another top-performing fund in the high yield mutual funds in India category. This fund's strategy revolves around identifying companies with strong fundamentals and a history of paying substantial dividends. It is ideal for investors looking for a mix of income and growth.

5.Templeton India Equity Income Fund

One of the oldest in the category renowned for its consistent performance and high dividend. This fund's strategic stock selection and focus on companies with solid dividend histories make it one of the best dividend income funds India in 2024. This fund is one of the best in protecting against volatility in its category.

Factors to Consider When Choosing Dividend Yield Mutual Funds

When selecting the best dividend yield mutual funds in India, investors should consider the following factors:

Historical Performance: Examine the fund's past performance, particularly its dividend payout history and consistency.

Fund Manager's Track Record: The expertise and experience of the fund manager play a crucial role in the fund's success. Look for funds managed by professionals with a proven track record.

Expense Ratio: Lower expense ratios lead to higher overall returns. Thus, compare the expense ratios of different funds to ensure you are getting value for your investment.

Portfolio Diversification: A well-diversified portfolio can mitigate risks. Ensure the fund invests in a variety of sectors and industries.

Yield Consistency: Look for funds that have consistently provided high dividend yields over the years.

Bottom-line

Investing in the best dividend yield mutual funds in India can be a prudent choice for those seeking a stable return from quality stocks over the long term. Dividend yield funds offer a good combination of stability and growth, making them suitable for a wide range of investors. Keep in mind the tax implications of mutual funds before investing in and carefully select the funds based on historical performance, expense ratios, and portfolio diversification.