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Stocks Investment 101: Should You Invest for Capital Gain or Dividend Yield?

Updated 19 Oct 2018 – By Loanstreet


When investing in stocks, newcomers often ask this question, “Should I invest for capital gain or dividend yield?”

For a start, there is no right or wrong answer to the question above. We can build a sizable portfolio regardless of our own preference, as what really matters is the total return on investment. The following article will explain the differences between capital gains and dividend yields.

As both components are equally valuable, we need to first know what is the objective of our investment, how much risk we can afford to take and why it is better to focus on investing for dividend yields if we are a complete beginner in investing.

 

What are the Differences between Capital Gain and Dividend Yield?

  Capital Gain Dividend Yield
Definition It refers to profit that results from a sale of a capital asset. It is the financial ratio that measures the quantum of cash dividends paid out to shareholders relative to the market value per share.
Calculation Sale Price - Purchase Price = Capital Gain Dividend Yield = Annual Dividend / Current Stock Price x 100%
Taxation It is not taxable in Malaysia, except for gains derived from the disposal of real property or on the sale shares in a real property company. However, when it is frequent enough, Inland Revenue Board (IRB) will treat it as an active income and do require income tax liability. All dividends are single tier (aka tax exemption in the hand of shareholders) as it is already taxed at the company level.
Risk It's risky because the gains are based on the ups and downs of the stock market. It's less risky because you’ll enjoy the certainty of income flowing into your bank account on a periodic basis (unless the company changes its stock price).

 

So, Which is Better: Capital Gain Vs Dividend Yield?

According to a licensed financial planner from VKA Wealth Planners, Kevin K.M. Neoh, it really depends on what you want from this investment, and how much risk you can afford (or are willing) to take.

Let’s take a look at the examples below to understand the advantages and disadvantages of capital gain vs dividend yield.

 

1) Capital Gain
This works when the sale price is higher than the purchase price.

For example, if you purchase 200 shares of ABC Company for RM1 per share and the share price increases to RM10 after three months, then the value of the investment would have increased from RM200 to RM2,000, profiting a capital gain of RM1,800.  If you sell an asset for less than what you initially paid for then it will be considered as a capital loss.

If you sold the ABC Company after a year, your RM1,800 profit would be considered as long-term capital gain. However, if you sold the company shares after just three months, it means that your RM1,800 profit as short-term capital gain.

Take note that capital gain is not taxable in Malaysia, except for gains derived from the disposal of real property or on the sale shares in a real property company. However, when it is frequent enough, IRB will treat it as an active income and do require income tax liability.

 

2) Dividend Yield
For instance, you own 500 shares of Company ING, which pays RM2.00 per share in annual dividends. If the current stock price is RM10.00, then the dividend yield is calculated as below:

RM2.00/RM10.00 x 100% = 2%

There is an inverse relationship between yield and stock price. For example, if the stock price rose to RM20, the yield would be RM2.00/RM20 or 0.5%. The 500 share investment would be worth RM10,000 (versus RM5,000 originally), but the yield on the investment would fall from 2% to 0.5%.

Regardless of whether the stock price falls or rises, the dividend will stay the same and you will still receive RM2.00 per share (unless the company changes the dividend).  

More often than not, investors view companies that have paid out significant dividends for an extended period of time as "safer" investments. It also functions as a measure of an investment’s productivity, and some view it like an "interest rate" earned on an investment.

 

What Are Some of the Tips for a Successful Investment?

Agensi Kaunseling dan Pengurusan Kredit (AKPK) trainer and Head of Programme Coordinating Unit in the Financial Education Department Desmond Chong shares the 6-steps of financial planning for investment purposes:

Step 1: Investment objectives – If you are thinking of investing for your children's education or retirement, then investing with the purpose of acquiring capital gain in the long term will be more suitable.

Step 2: Gather investment information – Certain asset types offer consistent income (fixed deposits, bonds, peer-to-peer lending), some offer capital gain opportunity (stocks, private equity investment), and some offer the best of both world (such as properties, Real Estate Investment Trusts [REITs], dividend stocks).

Step 3: Analyse information – Make sure the stock selected to match to your risk profile and investment objective example blue chip for dividend yield and IT stock for capital gain.

Step 4: Develop an investment plan – Decide what stocks to invest then proceed with an Investment Strategy, for example DCA (Dollar Cost Averaging) - an investment technique of buying a fixed dollar amount of a particular investment on a regular schedule, regardless of the share price.

Step 5: Execute the investment plan – Look for a trusted broker based on their experience.

Step 6: Review and monitor – Set a time frame to do rebalancing or look for a performance benchmark.

 

Don’t Forget to Set Clear Investment Goals

It is always a good practice to first identify your investment need and goal, like what are you investing for. Answering this question will help you to identify how the investment return should be like before making a particular investment.

Besides that, you should also practice to diversify your investment, and have a proper asset allocation that is suitable for your investment objective and life goals. If you don’t have a strong financial background, lack of savings and have inconsistent cash flow, then investing for dividend yield is a good place to start.

 

 

 

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