How to load the stock market dice in your favour

Are shares a gamble, or an investment? Once upon a time, the stock market was seen not as a casino, but as a place where you staked your cash in order to receive a dividend. Then came privatisations, the technology bubble, internet share-dealing and a new breed of investors who saw shares as a way of getting rich quick.
By the time of the banking crash, savings accounts and gilts were offering returns of 5%, well above the traditional 3% dividend yield of the stock market. No wonder shares were seen as a place to have a flutter, rather than a steady income source.
But times have changed. Gilts are at a bombed-out 2% and bank deposits are at all-time lows, while the UK stock market is now yielding 3.8% - and that is set to rise to 4%. That's because dividends are still going up.
The annual equity-gilt study by Barclays shows that pound(s)100 invested in 1945 would have reached pound(s)136,107 by 2010. But if the increase in capital alone was counted, the pound(s)100 would have reached only pound(s)7932 - the other pound(s)128,175 came from the dividends, reinvested into the market.
"Dividend investing has been a style which has been forgotten about for the last 15 years," says Rob Davies, a former City fund manager and Clydesdale Bank private client adviser who now runs Fundamental Tracker Investment Management from Bearsden, near Glasgow. "Unlike a book value, a dividend can never be restated, and once you have got the cheque - you've got it."
Dividends are at the heart of the investment model Davies invented four years ago for his Munro Fund. His low-cost tracking process chooses stocks in the FTSE-350 not by their market value, as conventional tracker funds do, but by the size of their promised dividend yield.
His software selects the stocks forecast to deliver the biggest dividends over the next year, and ignores share prices. So 10% of the Munro is in Vodafone, as the forecast is that Vodafone will pay dividends worth pound(s)7 billion - 10% of the total market dividends of pound(s)70bn - next year.
Davies says: "People love to buy stuff when it's going up, the way we make our money is by going against the crowd, by not getting caught up in the momentum. Dividend investing is for people who want something in the background looking after them, rather than wanting to get the dartboard out."
He argues that the popular "equity income" funds are essentially stockpicking funds. "They try to increase their yield, in the short term, but at the expense of potentially missing out on future dividend increases and long-term capital growth."
Davies says: "Our process essentially takes two hours a month, and we beat 80% of the market. The industry is reluctant and nervous to buy into this because essentially it is eating their lunch."
Dividend investing encourages shareholder power, and Davies believes managers should not be incentivised with shares at all. "Why give the managers of Vodafone stock for free on top of their salaries? It is investors' capital that is being deployed. It suits directors to make big acquisitions and big deals, and if it all goes wrong they get a big golden handshake."
Despite gloom elsewhere, dividend investors are optimistic. Companies are in better shape than they were four years ago, yet the total dividend pay-out from the market is as high as it was then. Boards are under growing pressure from shareholders to pay out more in special payouts as well as rising regular dividends.
Meanwhile, investment trusts in the low-cost global growth and income sector can boast some of the highest dividend yields, averaging 4.4%, as well as some of the strongest growth in dividends over the past five years, according to the Association of Investment Companies (AIC).
Patrick Edwardson, at Baillie Gifford in Edinburgh, who manages the pound(s)380 million Scottish American Investment Company, said recently that dividends were expected to rise.
"The corporate sector is in very good shape," he said.
The AIC has highlighted the sector's "dividend heroes" - 15 trusts which have increased their dividend payments every year for the past 25 years and more. They include City of London, Alliance Trust, Bankers Investment Trust and Caledonia.
Davies says: "The market is saying there is going to be inflation of 2.5%, so assuming dividends keep pace with inflation the current annual pay-out is set to rise to pound(s)85bn. That is a growing stream of income."
According to his analysis, the total returns of the FTSE-350 have for the past six months been lagging behind forecasted dividends for the first time since early 2009, and the gap seems to be widening. That suggests the market will be pulled upwards not by the whim of the casino, but by the power of the dividend.