Are dividends the answer to the inflation problem?
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The latest UK Dividend Monitor from Link Group suggests that UK dividends may not regain their previous highs until 2025 at the very earliest. In what was rather bleak news for income investors, the report highlighted that eight years of growth had been wiped off UK dividends in 2020, with two thirds of companies cancelling or cutting their dividends in response to the pandemic lockdowns and dividends falling 30-35% in total*.
The timeline to recovery is backed-up by Murray International Trust manager Bruce Stout who says that while markets have tended to recover quickly from a recession, the last six ‘dividend recessions’ experienced in the past 100 years have taken much longer to recover –it takes roughly four to five years for companies to rebuild their balance sheets**. This is because share prices react in advance of economic improvement, whereas dividends don’t pick up until after companies’ financials improve.
A handful of UK equity income funds have managed to do better than the market when it comes to dividend cuts: Rathbone Income and TB Evenlode Income saw their dividends fall by a much lower 20-25%, for example.
Being able to pick certain stocks that may recover faster also helps. As Siddarth Chand Lall, manager of Marlborough Multi Cap Income fund, pointed out: “Having previously announced a blanket ban on dividends for banks, the Prudential Regulation Authority has now allowed UK banks to restart dividends, which is earlier than expected. We are no longer seeing a deterioration in the dividends being paid by companies and, as was the case last month, the number of companies reinstating dividends has risen again. The tone is very clearly one of recovery and growth with the odd special dividend also being announced once again.”
Going overseas is also an option.
The MSCI World index saw dividends fall 12.3% in 2020 vs 2019. While most individual country stock markets saw hefty dividend cuts, some were less exaggerated than others.
In Europe, the overall EuroSTOXX Index dividend declined by over 30% in 2020 compared to 2019; 25% of all companies in the Index cancelled their dividend and a further 25% reduced their dividend^.
But Andreas Zoellinger, manager of the BlackRock fund, is very optimistic. “Right now is actually a very exciting time for income investing,” he said. “2020 was a tumultuous year with many companies cancelling or suspending their dividends, either for corporate governance or regulatory reasons. With earnings expected to recover strongly in 2021, we expect dividends to get back to more ‘normal’ levels this year. However, investors will need to remain selective to avoid value traps.”
Emerging market dividends fared better than the UK, falling just under 19%, with local regulators stopping some dividends being paid in areas like financials. Both our Elite Radar funds in this category did better than the benchmark though, with dividends on the Guinness fund falling 5% and the Magna fund dividend flat year on year.
Ian Simmons, manager of Elite Radar Magna Emerging Markets Dividend, told us more about emerging market dividends in this recent video interview:
The Asian market index now yields about 2% – down more than 20% since the crisis. But again, funds have been able to protect their dividend payments better. Jupiter Asian Income is currently yielding 2.5% while the Guinness Asian Equity Income fund has a yield of 3.2.
Co-manager of the Guinness fund, Edmund Harris said, “Asia is expected to lead world growth again this year and, when earnings recover, we expect dividends to recover. The region has handled COVID better having had the experience of SARS and with populations that do as the government tells them – it means lockdown have been more effective. Governments have also spent less than developed markets in their fiscal response to the pandemic and consumer confidence also higher.
Elite Rated fund options: JPM US Equity Income
The S&P 500 was more robust than most markets when it came to dividends and payouts were on a par with 2019. This resilience owed to a culture of progressive dividend policies, a focus on share buybacks, and more conservative payout ratios.
Last October, Fiona Harris, investment specialist for the JPM US Equity Income fund, told us that just 13% of S&P 500 companies cut or suspended their payments while more than 40% had raised or started them. Here more in this podcast:
Elite Rated fund options: Baillie Gifford Japanese Income Growth
Pre-Covid, 55% of Japanese companies held net cash, the highest amount in the world. The Japanese dividend payout ratio in contrast was very low compared with global peers at about 30%. This conservatism paid off in 2020, giving balance sheets stability and giving Japanese companies room for growth – they were not forced to cut dividends in the same way as other countries.
*Link Group UK Dividend Monitor, Q4 2020
**Source: Aberdeen/Standard website – Edison Research Note
^Source: Guinness Asset Management and SocGen, 20 January 2021