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Beware the yield trap

Nirgunan Tiruchelvam
Nirgunan Tiruchelvam8/4/2022 03:17 PM GMT+08  • 4 min read
Beware the yield trap
Beauty content creator Song Ji-ah was found to be using fake branded bags / Photo: Song Ji-ah's Youtube channel
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Single’s Inferno is a hit reality show on Netflix. It is a dating show set on a deserted Korean island and directed at teenagers and young adults.

The show’s format is not original. That has not been a problem. In the show, loveless youth are marooned on the island. There are no means of escape. The stranded singles are forced to look for romance. The outcome includes love triangles and back stabbing. The show has captivated Korean youth.

Song Ji-ah has been the show’s standout participant. She is a beauty content creator with over 100,000 YouTube followers. Her fame expanded well beyond the online world. People used to queue for hours to take selfies with her.

In January, the bubble burst for the 25-yearold Song. It turned out that she was using fake Chanel and Dior handbags on the show. Her watches and sunglasses were also counterfeit.

The import of fake goods is illegal in South Korea and promoting these goods is considered improper.

Song was forced to apologise. She was kicked out of the show and previous episodes have been edited to exclude her.

See also: Holding cash will be a winning strategy in 2023, investors say

The scandal, known as “Chanel Gate”, offers lessons for investors on the Singapore Exchange (SGX). The SGX has long been a haven for dividends. The dividend yield on SGX is 3.24%. This is by far the highest in Asean.

There is depth of the dividends on the SGX. The SGX has 89 stocks each with a market capitalisation of over $1 billion with a dividend yield of 4%. Many of them are REITs and property stocks. There are also banks and consumer companies paying high dividends.

Investing in the Straits Times Index over the last 20 years would represent a return of 117.4% in terms of capital gain. Reinvesting the dividends would add 138.4% to the return.

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However, investors can be fooled by the headline dividend yields. Like the viewers of Single’s Inferno, investors can be misled. The viewers were fooled by fake handbags. Many investors on the SGX have been burnt by chasing fake dividends.

Investors often mistake the distribution yield for the dividend yield. The distinction between these two ratios is vital. It is like the difference between a real handbag and a fake one. The distribution yield is the ratio of distributions over the market capitalisation. It could include distributable profits as well as the company’s issued capital.

In comparison, the dividend yield is the ratio of dividends to the market capitalisation. It excludes the issued capital.

For example, a company could pay out the entirety of its $10 million of profit as dividends. Assuming the market capitalisation is $100 million, the dividend yield is 10%. If the same company pays $15 million including $5 million of its own capital, then the distribution yield is 15%

REITs and listed investment trusts sometimes pay out dividends from their issued capital. Chasing distribution yield can be disastrous. It means that the company is running down its own net worth. The company is diluting its capital to satisfy yield-hungry investors.

Any company that pays out from its capital is challenged. It means that it would eventually deplete its capital.

This was precisely the fiasco that SGX investors faced over a decade ago. There was a listed investment trust called Rickmers Maritime Trust. It operated container ships. Its dividend yield hit 229% in 2009. The stock had collapsed due to the rout in the shipping market. The dividend payouts were more than twice the market capitalisation. Many investors were lured by this ratio. The stock doubled between 2009 and 2011.

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It turned out that the company was paying out of its capital. The terms of the investment trust allowed the trust to distribute dividends before accounting for depreciation. The payout rate was unsustainable. The shipping trust had an extended decline. It was eventually laid to rest by its creditors in 2017.

There were other listed investment trusts that paid out mouth-watering distribution yields. Asian Pay Television Trust is a listed fund that controls a Taiwanese cable TV operator. Its dividend yield was over 22% in 2017. It is down 70% after a dividend cut in 2018. It now trades at a more reasonable yield of around 8.5%.

All that glitters is not gold. A bag that looks like Christian Dior may be fake. Dividends and distribution yields should not be confused.

Nirgunan Tiruchelvam is head of consumer sector equity at Tellimer and author of Investing in the Covid Era. He does not hold any position in the stocks mentioned in these columns

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