Income Stocks: What it is, How it Works, Example

Investments are based on the perspective of gaining passive income. Income stocks serve best to the investors looking for passive income in the form of dividends. These kind of stocks offer regular returns by paying dividends which is a steady source of income for investors. Delve deep into this blog to gain in-depth understanding about the whole concept.

What is Income Stocks?

Income stocks are those that offer regular and steady income and are not much risky. The income is usually offered in the form of dividends. These are the dividend paying stocks which can be a steady source of cash income for shareholders. These stocks have the potential to generate sufficient returns from their profit gains irrespective of their stock value. It is a form of security as dividend income steadily grows over time to adjust for dividend to inflation.

Passive Income Stocks

Passive income stocks provide steady returns and predictable income to shareholders through dividends and these stocks generally belong to the mature companies. Matured companies are the ones that have achieved their full potential of growth and have the ability to generate steady cash flows over a period of time.

Fixed Income Stock

Fixed income stocks provide a fixed return on investment to the shareholders which is quite similar to the bonds. These are considered as a safer investment option as the investors who are interested in steady income with minimal risk prefer these stocks.

Features of Income Stocks

Income stock offer distinctive features that encourage investors to purchase them. These kinds of stocks differentiate themselves from other stocks as they offer a unique set of features. Let us delve deeper to know the features of these stocks as the investors are attracted towards steady income.

High Dividend Yield

High dividend yield is expressed in terms of percentages which represents the ratio of annual dividends to its current share market price which the company pays to its shareholders. Investors are attracted by high dividend yield as a secure option and who want steady cash flows from their investments.

Dividend Yield = Annual Dividends / Price per Share * 100

Also Read: Bond Yield

Stability

Income stock offer stable returns as compared to growth stocks. Growth stocks are riskier especially during economic downturns, whereas these stocks ensure consistent returns to the shareholders.

Lower Risk

Income stock have low risks because usually these stocks belong to industries that are consistent and reliable. Income stocks generally belong to industries such as consumer staples, utilities, natural resources that remain consistent in demand irrespective of the state of the economy.

Why to Invest in Income Stocks?

Investing in income stocks can help to generate sufficient returns income focused investors are attracted towards these stocks. Some of the main reasons that income stock are preferred by the investors are:

Long Term Growth Potential

Income stock hold a value for the dividends they offer through which investors can generate appreciation for their capital in the long term. Many dividend paying stocks not only offer regular income through dividends but they also have a high growing potential.

Steady and Regular Income

Investing in income stocks guarantees steady income in the form of dividends. Investors can generate a reliable income stream through these stocks.

Portfolio Diversification

Adding these stocks in your portfolio is a great way of portfolio diversification as an investor.  This helps to manage the risks efficiently as the stocks that are giving losses can be balanced out by adding income stock and hence maintaining the overall portfolio.

Inflation Hedge

Dividends as an important part of income of a company can increase over time which helps investors to keep pace with the inflation as well as to maintain the purchasing power of their income.

Potential Risks of Income Stocks

Income stocks offer various benefits to the investors but investors need to know the potential risks that can impact the performance of the stocks and the sector.

Limited Growth Potential

Though income stock offer regular and stable returns, the frequency of returns is slower as compared to growth stocks. Income stocks usually belong to mature industries and have already achieved their high potential which reduces their capacity to appreciate the capital in less time.

Interest Rates Fluctuations

Income stocks are largely impacted by the changes in interest rates, a rise in the interest rate can result in decreasing the prices of income stocks. The demand can decrease as higher yields are available on lower risk bonds which are not much preferred by the income focused investors.

Company Specific Risks

Investors are required to regularly monitor the market risks, poor management decisions, legal issues which can impact the stock’s prices and impact the company’s ability to pay dividends. Moreover, they have to deal with risks associated with the sector as economic changes can impact the performances of the stocks.

Liquidity Risk

Income stocks have lower trading volume which causes less movement in the prices of the stocks. It makes it hard to buy or sell large quantities without affecting the stock prices and hence decreases the liquidity. A decrease in liquidity leads to different problems when trying to execute large trades.

Examples of Income Stocks

Let us look at some of the examples of the income sector based on their sector.

• Consumer Staples: Hindustan Unilever Limited (HUL) and ITC Limited.
• Financials: HDFC Bank and State Bank of India.
• IT Sector: Infosys and Tata Consultancy Services (TCS)
• Energy Sector: Reliance Industries and Oil & Natural Gas Corporation (ONGC)
• Pharmaceuticals: Sun Pharmaceutical Industries and Dr. Reddy’s Laboratories.

In a Nutshell

Each investor wants to keep their investments secured and protected. Adding income stocks to the portfolio ensures safe investment as these stocks offer regular dividend which generates passive income. Therefore, an investor must add these stocks into their portfolio to get the best returns.

FAQs