Ignore the noise: UK dividends should be prized

  • Brexit has weighed heavily on UK shares, even where it will have little impact on the companies themselves
  • The yield on UK shares has hit its highest level since March 2009
  • Significant pessimism appears priced into UK shares

While the ebb and flow of share prices should be determined by the fortunes of individual companies, there are times when investors become distracted and fixate on other influences. From Chinese growth to Italian politics to US protectionism, short-term forces can obscure longer-term opportunities.

This is particularly the case when investing in UK markets today. The Brexit paralysis has weighted heavily on sterling and seen the UK stock market lag its developed market peers. In many cases, the share prices for UK companies have been influenced by forces entirely out of their control.

The temptation is to avoid the UK altogether, look to newer, shinier markets unencumbered by the weight of these political difficulties. However, to our mind, there are reasons that the UK remains a fertile market – and particularly so for income investors.

There are lots of sound, long-term reasons to invest in UK-based companies: they have many competitive advantages: Intellectual property is highly developed in the UK due to early industrialisation. More importantly, it is protected by internationally recognised patents and strong brands. British companies are global – a legacy of empire and a small landmass that forced companies to be international from the outset. The UK has a skilled workforce, strong governance and good rule of law. None of this is dented by Brexit, or any other political event around the globe.

The UK markets have particularly appeal for income investors today. The yield on UK shares has hit its highest level since March 2009 (1.). FTSE 100 companies are expected to yield more than 5% in the year ahead. Smaller companies have a lower starting yield – of 3.3% – but display higher growth. This brings the average yield for the UK market to 4.8%, significantly outpacing its developed market peers.

This compares to a 30-year long-run average of 3.5% and income of 1.3% available from a 10 year government bond (2.). Income at this level would normally only be seen at times of significant distress, when investors feared companies were about to cut dividends. However, that doesn’t appear to be the case today. While the global economy is slowing and there are certain vulnerable sectors, for the most part yields look relatively secure. The majority of sectors saw dividends rise in the final quarter, with only areas such as leisure and retail showing weakness.

The dividend cover – the extent to which a company’s dividend is covered by its profits – is the highest it has been in several years. At the same time, apart from some troubled consumer-facing sectors, most companies are growing their revenues. Pre-tax profits for UK plc jumped 13.7% in the third quarter of last year, hitting a total £217.9bn for the past 12 months (3.). None of this is a reason to rush out and indiscriminately buy UK shares, but it does suggest there is considerable pessimism reflected in share prices.

However, it is not just about high yields. While they can tell us something about today’s market, it is not the full picture. Buying simply because yields are high is not likely to be an effective long-term strategy. Dividends also need to grow over time to help so that investors can ensure their income keeps pace with inflation.

Murray Income has grown its payout to shareholders for 45 years in a row and it remains a key priority for the trust. Only a handful of trusts have a longer record. This doesn’t happen accidentally. It is part and parcel of our process. Here too, the UK market provides a good hunting ground. The same Dividend Monitor predicted yields will grow just over 5% for the FTSE 100 in 2019; the pace among smaller companies is even faster. By blending mid caps and foreign domiciled shares, the average dividend growth on the Murray Income portfolio is growing at 5.6%. Our holding in non UK shares is not a reflection of any gripes with the UK market. The trust allows us the flexibility to invest abroad and there are a number of world-class companies for which there is no UK equivalent.

Dividends remain a touchstone that indicates the strength of a company, encouraging a disciplined and long-term approach on the part of management. Analysis of dividend strength needs to be combined with other markers of quality – a company’s competitive position, the strength of its balance sheet, the attractiveness of the industry in which it operates.

Dividends are a vitally important component of long-term returns. The FTSE 100 remains at the same level as it was at the height of the technology boom in 2000. However, investors have doubled their money. The difference is dividends.

1. Link Asset Services Dividend Monitor – https://www.linkassetservices.com/our-thinking/uk-dividend-monitor-q4-2018
2. https://www.bloomberg.com/quote/GUKG10:IND
3. https://www.investmentweek.co.uk/investment-week/news/3065633/emb-mon-uk-pre-tax-profits-surpass-2011-highs-at-gbp218bn

Important information
Aberdeen Standard Investments is a brand of the investment businesses of Aberdeen Asset Management and Standard Life Investments.

Risk factors you should consider prior to investing:

• The value of investments and the income from them can fall and investors may get back less than the amount invested.
• Past performance is not a guide to future results.
• Investment in the Company may not be appropriate for investors who plan to withdraw their money within 5 years.
• The Company may borrow to finance further investment (gearing). The use of gearing is likely to lead to volatility in the Net Asset Value (NAV) meaning that any movement in the value of the company’s assets will result in a magnified movement in the NAV.
• The Company may accumulate investment positions which represent more than normal trading volumes which may make it difficult to realise investments and may lead to volatility in the market price of the Company’s shares.
• The Company may charge expenses to capital which may erode the capital value of the investment.
• Derivatives may be used, subject to restrictions set out for the Company, in order to manage risk and generate income. The market in derivatives can be volatile and there is a higher than average risk of loss.

• There is no guarantee that the market price of the Company’s shares will fully reflect their underlying Net Asset Value.
• As with all stock exchange investments the value of the Company’s shares purchased will immediately fall by the difference between the buying and selling prices, the bid-offer spread. If trading volumes fall, the bid-offer spread can widen.
• Certain trusts may seek to invest in higher yielding securities such as bonds, which are subject to credit risk, market price risk and interest rate risk. Unlike income from a single bond, the level of income from an investment trust is not fixed and may fluctuate.
• Yields are estimated figures and may fluctuate, there are no guarantees that future dividends will match or exceed historic dividends and certain investors may be subject to further tax on dividends.

Other important information:
Issued by Aberdeen Asset Managers Limited which is authorised and regulated by the Financial Conduct Authority in the United Kingdom. Registered Office: 10 Queen’s Terrace, Aberdeen AB10 1XL. Registered in Scotland No. 108419. An investment trust should be considered only as part of a balanced portfolio. Under no circumstances should this information be considered as an offer or solicitation to deal in investments.
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Aberdeen Standard Investments is a brand of the investment businesses of Aberdeen Asset Management and Standard Life Investments.
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