Dividend yield funds are equity-oriented mutual funds that primarily invest in companies that pay regular dividends. These are usually companies that earn good profits and share a part of those profits as dividends.

These funds are required to invest at least 65% of their total assets in dividend-paying stocks. They can invest the remaining amount in other stocks, debt instruments, or keep it as reserved cash.

Rather than chasing stocks that rise quickly, this mutual fund scheme focuses on well-established companies with steady cash flows. This is what makes them different from the schemes that focus on high-growth businesses, such as mid cap funds and small cap funds.

Dividend yield funds can be a better option for those who want equity exposure but prefer companies with steady cash. You can consider investing in them if:

• You want lower volatility: Companies that pay regular dividends are often financially stable. Their stock prices may not fall as much as mid-cap and small-cap stocks during a market correction.
• You are a long-term investor: These schemes work better if you can stay invested for 3 to 5 years and allow dividends and capital gains to grow over time.
• You want a balanced portfolio: If you already invest in growth-oriented schemes, adding a dividend yield fund can give your portfolio a different type of exposure.

When you invest in a dividend yield fund, via SIP or lump sum, your money is credited into a pool of assets. The fund manager then picks companies with strong cash flows, low debt and a history of high dividends and invests in them.

You generally get two options:

• Growth option: With this option, the dividends received from the companies are reinvested into the fund. It helps your money compound over time.
• IDCW option: IDCW stands for Income Distribution cum Capital Withdrawal. If you select this option, the mutual fund pays you the dividend from time to time, depending on the scheme rules.

Let’s understand this with a simple illustration. Suppose you invest ₹10,000 in a dividend yield fund when its NAV is ₹50. You get 200 units. (₹10,000/₹50).

Here’s how your investment may grow if you opt for the growth option:

Now, if you choose the IDCW option, the NAV falls by the amount of dividend paid. Suppose the scheme pays ₹2 dividend per unit. The NAV becomes ₹48 (₹50 - ₹2) after the payout. You will receive ₹400 (200 units x ₹2) in your bank account, but the remaining investment also falls by the same amount.

So, if your goal is long-term wealth creation, the growth option can be a better choice because your money stays invested and can keep growing.

• Regular dividend-paying companies: You get exposure to companies that have a history of sharing their profits with shareholders.
• Focus on different types of companies: The fund manager can invest across large, mid and small caps. This gives you access to companies of different sizes while staying focused on dividend-yielding businesses.
• Complements growth-focused schemes: If you already have growth-focused schemes such as mid cap funds, small cap funds or sectoral funds, then this fund can add another style of investing.
• Professional stock selection: You don’t have to research every company’s dividend history, profits, debts and cash flows yourself. A fund manager does this work, and you get a ready-made portfolio.

Dividend yield funds are not risk-free. Here are some important risks you must understand:

• They may underperform during strong rallies: Generally, during big market rallies, fast-growing companies rise, whereas dividend-paying businesses may lag behind. During such times, having another SIP in schemes such as flexi cap fund or mid cap funds can help you capture the rally.
• Dividends are not guaranteed: Companies can reduce or stop their dividend payments if their profits fall or they need to preserve cash.
• Dividend trap: Dividend yield is a percentage calculated by dividing the dividend by the share price. So if the stock price falls, dividend yield can look higher. Such stocks can lead to losses. Therefore, it becomes important to assess a stock’s performance along with its dividend history.
• They expose you to slow-growing sectors: Many dividend-paying companies operate in mature sectors such as mining, oil marketing, and traditional banking. These may not grow as quickly as some newer industries.

These three schemes may look similar, as they all look for stocks nobody else is chasing. But their approach is different.

However, if you’re specifically looking for schemes that combine equity with fixed-income, you can also explore balanced funds or equity savings funds.

Finding the best dividend yield mutual funds isn’t just about looking at which fund gave the highest return recently. Here are some important things you should check:

• Look through the portfolio: Check whether the fund manager has invested in companies of different sectors. Avoid funds that are heavily dependent on one or two sectors. A well-spread portfolio can balance risk exposure.
• Check dividend history: Don’t choose a fund just because its current portfolio has a high dividend yield. The best dividend yield funds invest in companies that can continue to generate cash in the long run.
• See how the fund performed during market falls: Check how the fund has performed during previous market corrections. This can give you an idea of how it handles falling markets. You can also check the fund manager's track record.
• Compare costs: The expense ratio is an annual management fee which reduces your returns over time. To keep the costs low, you can choose a direct growth plan instead of a regular plan.
• Decide how much to invest: You can allocate about 10% to 20% of your total investments in these funds. This is because they invest in slow-growing, mature stocks. For more balanced growth, you can invest the remaining amount in index funds, such as Nifty 50 funds or Nifty Next 50 funds.

In a few simple steps, you can begin investing in dividend yield mutual funds on Millions. Here’s how:

• Get the Millions app from the Google Play Store or the iOS App Store.
• Verify your mobile number and complete the paperless KYC.
• Go to the mutual funds (MF) section and select the dividend yield fund of your choice.
• Tap on “SIP” and choose a daily, weekly or monthly frequency you’re comfortable with.
• Enter the SIP amount, select the debit date and authenticate your first payment.

Your SIP is set! You don’t need a big amount to start. Even a small SIP can help you build wealth over time through compounding. The important thing is to choose an amount you can invest regularly. If you have shorter-term goals, you can also consider other fixed-income schemes such as money market funds, banking PSU funds, or corporate bond funds. Always remember to pick a fund based on your goals and risk level.