British corporates have always prided themselves on the nation’s shareholder-friendly posture but, after years of tough economic conditions, is the income well finally beginning to run dry?
In April, Capita’s UK Dividend Monitor predicted domestic dividends would fall by 1.7% this year, the first decline since 2010. Meanwhile, the latest research from AJ Bell estimates cuts to dividends in FTSE 100 will total a staggering £5.7bn over 2015 and 2016.
To date this year, investors have already faced dividend cuts from listed miners BHP Billiton and Rio Tinto, as well as venerable institutions such as Rolls-Royce and Barclays.
The Investment Association’s (IA) latest consultation paper on the future shape of its UK Equity Income sector has added fuel to the debate; but was arguably a little late coming after Invesco Perpetual, Schroders and Henderson funds were excluded from the sector for missing its yield target of 110% of the FTSE over three years.
Sign o’ the times
Should income-seeking investors view this as a warning sign to abandon the sector in favour of funds that take their yield requirements more seriously? Should investors shift to parts of fixed income, property, absolute return, or strategies utilising covered call options? Or should wealth managers become more creative in their search within the confines of UK equities?
James Calder, research director at City Asset Management, is one wealth manager who has been “aggressively” cutting his exposure to UK equity income funds in favour of absolute return strategies.
“Ten companies produce something like 43% of the FTSE 100’s yield, so you are heavily biased to certain sectors, one of them being resources,” he says. “No matter what your view on global growth, companies are going to keep cutting their dividends. When Rio Tinto cut its dividend, it was surprising how well the market took it. One of the reasons for that is income managers are being forced to go further down a route where it is income at all costs.”
Of the IA consultation, he says: “The one thing you have to remember is an equity income fund should actually produce a greater level of income than the index, or you are better off buying the index.
“I am not quite sure what the IA can come up with from that perspective, or you are going to end up with funds that are falling into both camps – UK All Companies and UK Equity Income.”
Seen as something of a sub-sector within UK Equity Income, there are a group of funds looking outside the well mined FTSE 100, including offerings from the likes of Unicorn, Chelverton, Miton and Marlborough Fund Managers (see chart 1).
Chelverton Asset Management is an interesting example, with the firm offering both its mid-cap focused £451m UK Equity Income Fund (yield 4%) as well as the closed-ended Small Companies Dividend Trust, which invests in companies capitalised at less than £500m.