In the world of investment, one strategy that has been gaining traction among ordinary investors is focusing on dividend-paying stocks. Particularly in the Hong Kong stock market, the appeal of high-dividend shares has become increasingly pronounced. This strategy has been lauded as not only straightforward but also reliable for generating income through dividends, especially for those who prefer a less hectic investment approach. Rather than painstakingly selecting individual stocks, one practical alternative is to invest in dividend index funds, which effectively provide a diversified portfolio of high-dividend equities.

Recently, I attended a seminar organized by a private equity fund, which showcased a spectrum of investment strategies. Some fund managers discussed their plans to invest heavily in the tech sector of the US market, while others had their sights set firmly on the high-dividend assets emanating from the Hong Kong stock market. This focus on dividends is particularly appealing given the current economic conditions and the inherent risks associated with tech stocks, which many agree are currently overvalued.

The notion that high dividend stocks can outperform the broader market is not merely speculation; historical data supports it. For instance, dividend funds, characterized by their selection of high-yielding stocks that frequently issue substantial cash dividends, have consistently shown strong performance relative to their respective benchmarks in both developed and emerging markets. The S&P 500 Dividend Aristocrats Index in the United States serves as a shining example; it comprises companies with a track record of increasing their dividends for at least twenty-five consecutive years. Over a two-decade period, the performances of the Dividend Aristocrats have frequently outstripped that of the overall S&P 500 Index.

This trend is also observable in China's stock market. Although the Hong Kong-listed Central State-Owned Enterprises (SOEs) Dividend Index has only recently been introduced, we can compare the more well-established CSI dividend index against the CSI 300 Index for a clearer picture of their performances over the years. From September 2014 to September 2024, the CSI Dividend Index witnessed a remarkable cumulative growth of approximately 95.34%, significantly outpacing the CSI 300, which only managed a return of 39.69% during the same period. When factoring in dividends, the overall return of the CSI Dividend Index becomes even more impressive.

Research conducted by firms like Guotai Junan has shown that the performance of dividend-focused indices has not only been robust during bullish markets but also exhibits resilience during downturns. Their findings reveal that during periods of decline in the broader A-shares market encapsulated by the Wind All A Index, the CSI Dividend Total Return Index tends to outperform it, showcasing its defensive characteristics.

In times of economic uncertainty, the defensiveness of Central SOEs holds considerable weight. Selected from within the Hong Kong Stock Connect, the Dividend Index is anchored by fifty state-owned enterprises known for their stable dividend payouts, dominating sectors like energy and public utilities, which tend to be monopolistic in nature. These enterprises not only enjoy considerable market share but also demonstrate stable cash flow and robust dividend-paying abilities, making them appealing to risk-averse investors.

Another encouraging factor is the newly released "National Guidelines" which, among various mandates, emphasizes managing the market capitalization of listed companies—a directive expected to enhance shareholder returns significantly. Several notable state-controlled enterprises, including giants like China Mobile and Sinopec, have declared ambitious dividend strategies for 2024. China Mobile has pledged to progressively raise its dividend payout ratio to over 75% of its annual profit within three years, while State Power Investment Corporation aims to increase its forecasted dividend payout from 50% to 55%.

On September 24, news broke that the People’s Bank of China had introduced a specialized lending tool aimed at stock repurchases to encourage listed companies to buy back shares. By supporting measures like this, the central bank’s intentions are clear: they want to bolster shareholder value and instill greater market confidence.

As we analyze the specifics further, it's vital to mention that many Hong Kong-listed Central SOEs present a higher yield compared to their mainland A-share counterparts. The phenomenon of H-shares being offered at a substantial discount—sometimes as much as 30% lower than A-shares—generates an attractive avenue for value investors. Not only do these H-shares generally offer superior dividend yields, but they also belong to blue-chip companies with solid reputations.

For example, as of now, the dividend yield for China Shenhua Energy's H-share stands at 7.18% compared to its A-share counterpart at 5.4%. Similarly, Sinopec’s H-shares yield 8% against 5.2% for its A-shares, highlighting a significant advantage for people considering dividend income. Even when accounting for a 20% withholding tax on dividends from Hong Kong stocks, H-shares yield remains appealingly higher.

Investing in H-shares over A-shares offers additional rewards when considered alongside long-term dividend reinvestment strategies. If policies evolve such that mainland investors can enjoy the same favorable tax treatments on Hong Kong stocks as with A-shares—namely avoiding the 20% withholding tax after holding stocks for a year—the price differential between A and H shares could further diminish. This regulatory shift could attract more investors, raising the demand for H-shares in the long run.

When it comes to valuing dividend funds, the focus often shifts toward identifying optimal entry and exit points. Traditional stock valuation methods such as price-to-earnings and price-to-book ratios remain relevant but should be complemented with an assessment of dividend yield. By tracking shifts in dividend yield, investors can glean essential insights into potential buy or sell opportunities.

Over the past six years, the H-share Central SOEs Dividend Index exhibited fluctuations in yield ranging from 3.51% to 8.89%, with an average yield of around 6.16%. This performance can be particularly leveraged when compared against risks reflected in alternative investments such as the currently low yield of around 2.04% from ten-year government bonds.

As prudent investors, the ideal strategy may involve gradually purchasing shares of the dividend index when yields exceed twice that of the government bond yields—especially when those yields maintain an absolute value over 5%. Conversely, selling might be considered when dividend yields subside beneath twice the government bond yield threshold—providing a systematic approach to managing investment risk.

Currently, the dividend yield of the Central SOEs Dividend Index is approximately 6.9%. Even accounting for a 20% dividend tax, this translates into a net yield of about 5.5%, a compelling figure that represents 2.8 times the yield of ten-year government bonds, suggesting an attractive long-term investment prospect.

In conclusion, the Central SOEs Dividend Index, apart from being a favorable option for long-term investments, also positions itself as an excellent candidate for systematic investment strategies, including dollar-cost averaging. By attracting income-oriented investors, these high-yielding funds can serve as a solid defensive base in a diversified portfolio, offering substantial returns over the long haul.

It is essential to remember that this discussion is not a formal investment recommendation, and potential investors should approach all investment opportunities with caution and due diligence.