Should you be worried about your dividends? If you are an investor taking income this question could be keeping you awake at night. Here we look at what the key focus should be for income investors and highlight the best ways to protect your income.
World events have been unsettling and this has fed through into the steady stream of client questions, and the coverage that we have seen in the press. “What will happen to my income?” “Is a strong pound good or bad?” “What happens when the pound weakens further/strengthens?” are all common queries.
In 2016, Capita produced a fairly gloomy report on the outlook for UK dividends. They predicted the weakest year for UK dividends since 2010. In the event, dividends paid by FTSE 100 companies were up about 6.6% in 2016 vs. 2015. But most of the growth was a result of the weak pound.
Weak sterling has certainly been a benefit for companies with foreign operations, as earnings generated overseas are worth more when converted back to (a weaker) sterling.
However, worrying about currency moves and a small number of dominant multinationals misses the key point that income investors should be prioritising: consistency of payout growth by individual funds. Investors should focus on funds that consistently manage to grow their payout regardless of foreign exchange movements or political events. These are the funds that will see you through a comfortable retirement because the managers seek out companies of all shapes and sizes that focus on growth in profits which in turn enables dividends to grow.
For example, JOHCM UK Equity Income anticipated low single digit dividend growth for the 2016 and succeeded in growing the dividend that they paid to investors by 7.6%. It has increased its payout in 8 out of the last 10 years: an impressive track record.
While some funds have a heavy weighting in FTSE 100 stocks, which might suffer as Capita suggests, this JOHCM fund is more focused on the FTSE 350 i.e. small and mid-cap stocks. The fund currently has one of the highest weightings to smaller companies in its history (ca. 15%).
Schroder Income is a similar fund. It has increased its payout in 8 of the last 10 years. The managers seek out opportunities by following a Value strategy: buy what is unjustifiably cheap, wherever you find it. The Value approach began to take off in 2016, and we expect this new trend to continue for a number of years, a boon for this fund. The fund currently has larger exposures to technology, consumer services and financials while avoiding expensive areas like tobacco.
Look abroad
And let's not forget that there is a big world outside the UK that is full of opportunities.
As we’ve said before, there are 7 times more income opportunities outside of the UK.
In the UK around 10 stocks will account for around 60% of total dividends compared to over 40 stocks in Asia-Pacific ex-Japan (according to Schroders, managers of Schroder Asian Income and Schroder Asian Income Maximiser funds). In addition, Asia Pacific ex-Japan accounts for just 11% of companies in the global index but 39% of companies yielding more than 4%.*
The greatest opportunity for dividend growth is from economies that are dynamic, youthful and with less debt. Investors should look east to Asia where valuations are also at very attractive levels.
In sum, don’t get distracted by gloomy headlines. Be vigilant in your choice of income funds and choose those that prioritise consistency of payout growth.
ACTION FOR INVESTORS
- Prioritise funds that consistently grow their payouts every year
- Don’t be afraid to look at opportunities overseas
- Ensure you follow a process for reviewing your funds with discipline
FURTHER READING
Payout growth calculated using Dividend Pay Dates on a calendar year basis
Data provided by FE Analytics and FundExpert.co.uk. Care has been taken to ensure that the information is correct but we neither warrant, represent nor guarantees the contents of the information, nor do we accept any responsibility for errors, inaccuracies, omissions or any inconsistencies herein. Where possible, we have contacted fund managers to check data that the data we receive is accurate.
* Schroder's research is based on the MSCI UK, MSCI AC World and the MSCI Asia-Pacific ex-Japan indices.