Equity income funds are popular with many investors. Most aim to generate a rising income along with some capital growth over the long term. The income can be paid out, or reinvested in the fund to boost long-term growth potential.
Source: Lipper IM to 01/11/2016. Past performance is not a guide to future returns.
|Annual percentage growth|
| Nov 11 -
| Nov 12 -
| Nov 13 -
| Nov 14 -
| Nov 15 -
|IA UK Equity Income||13.0%||25.2%||1.8%||7.7%||6.7%|
With interest rates at historic lows and unlikely to rise in the short term, the prospect of regular dividends from some of the UK's most successful companies remains attractive.
Our long-held view is that carefully chosen equity income funds could provide the foundation to almost any portfolio. Investing in an equity income fund rather than trying to choose shares yourself brings the advantage of a professional fund manager at the helm and a diversified portfolio.
The benefit of diversification has been brought into stark contrast in recent years as a number of high profile companies, including most banks, BP and Tesco have cut dividends. Holding a range of companies reduces the impact of one getting into trouble.
In the shorter term we could see slower dividend growth from some UK companies. Oil and mining companies, for instance, are struggling to grow profits and may find it harder to increase or maintain dividend payments.
Keeping cash in reserve for a rainy day is always wise, but for excess capital not required in the short term an equity income fund could be considered, albeit in the knowledge that unlike the security offered by cash it will fluctuate in value and you could get back less than you invest. For those in need of income, the yield offers obvious appeal although it should be remembered income is variable and not guaranteed. Those seeking growth should note that the reinvestment of dividends offers one of the most powerful and reliable ways to grow wealth over the long term.
Please remember past performance is not a guide to future returns. Where no data is shown, figures are not available. This information is provided to help you choose your own investments, remember they can fall as well as rise in value so you may not get back the original amount invested.
It has been a turbulent year for the UK stock market. In early 2016, markets fell amid concerns over slowing growth in China and its impact on the rest of the world. The stock market subsequently recovered, but stumbled once more after the UK voted to leave the European Union in June. Funds with a bias to domestically-focussed small and medium-sized companies bore the brunt of these market falls, whereas those invested in the UK's largest firms, which derive a greater proportion of their earnings overseas, fell to a lesser extent.
Many managers in the sector have avoided the shares of commodity-related businesses over concerns about the sustainability of dividend payments. This has hurt their funds’ recent returns as these businesses have broadly enjoyed a recovery in performance over the course of this year.
The average fund in the UK Equity Income sector has underperformed the broader UK market over the past year. However, over long periods of time higher-yielding companies have performed better than lower-yielding businesses. All investment styles come in and out of favour, so there will be periods of poor performance. However, financially-strong businesses which are able to consistently grow cash flow and reward investors with rising dividends should ultimately be rewarded with rising share prices.
Source for performance figures: Financial Express
Clive Beagles and James Lowen invest in undervalued and underrated companies across large, medium-sized and small companies. This approach is different to many of their peers, which means the fund dovetails well with more traditional equity income funds focused on larger businesses.
The managers have avoided companies popular with risk-averse income hunters – namely consumer goods, healthcare and utilities companies – which detracted from performance between June 2015 and June 2016 as these businesses performed well.
However, their stance has been vindicated somewhat since June as the strong performance of these bond-like equities has stalled. Conversely, sectors that have spent the past few years undervalued by other investors, such as banks, which are held in the portfolio, have performed relatively well.
While the managers’ approach has been a headwind over the past few years, strong stock selection has enabled the fund to outperform the index over the managers' tenure. The fund’s exposure to smaller companies adds risk.
Carl Stick balances the portfolio between high-quality companies delivering sustainable earnings, which he believes will succeed regardless of the health of the wider economy, and those in more economically-sensitive areas of the market.
The fund’s exposure to domestically-focused businesses, which are sensitive to slowing UK economic growth, has been a drag on performance this year. This includes investments in Restaurant Group, Next, ITV and Berkeley Group. Performance has also been held back by the manager’s decision to avoid commodity-related companies, which have performed well. Meanwhile, the fund’s investments in overseas companies such as Lockheed Martin and Verizon Communications performed well, aided by weaker sterling.
The manager is cautious in his outlook for the UK economy. He has reduced exposure to the economically-sensitive financial sector and increased the fund’s holdings in defensive businesses in the pharmaceutical, tobacco and utility sectors.
The team has significant experience managing equity income funds. Their approach has been consistent throughout and a focus on cash-generative companies with the ability to reliably increase dividends has served them well.
The fund has marginally underperformed the index over the past year as it invests less in the overseas-earning companies that performed well following the UK’s vote to leave the European Union. The fund also has a relatively low exposure to oil and resources companies, which rebounded strongly in the first few months of 2016.
Adrian Frost and Nick Shelton focus on selecting companies they would be happy to hold for the next 10 years. Current examples include publishing companies Relx (formerly Reed Elsevier) and Informa, two of the fund’s largest holdings. Both benefit from steady, gradually growing revenues with very little capital expenditure. These businesses invest heavily in technology and the managers are excited about their future prospects.
Ben Whitmore’s approach of focusing on out of favour companies had tended to lead to investment in stocks that generate a yield, but he had not specifically targeted a yield or income until he took over this fund in January 2013.
The fund has performed well over the past year, outperforming the FTSE All Share Index. The manager’s good stock selection has contributed positively to returns, according to our analysis.
In the current low-interest rate environment, investors have flocked to purchase shares in high–quality companies with attractive yields. This heightened demand has pushed up share prices and Ben Whitmore believes many stocks with these characteristics are now overvalued. He therefore seeks out-of-favour companies which he believes are under-priced, despite them being well-run and having sound balance sheets.
The managers structure the portfolio based on their wider economic, political and social views. Their thematic investment approach has helped deliver good returns for investors over the long term though this is not an indication of future returns.
The fund has struggled this year, particularly in the wake of the UK’s referendum on EU membership. Less exposure to traditionally high-yielding companies, such as those in the tobacco and consumer staples sectors, counted against the managers as investors sought safety among large companies with international earnings. Exposure to some UK-focused medium-sized and higher-risk smaller companies also held back performance.
Jan Luthman recently stepped down from managing the fund. He was an experienced investor and an expert in the analysis of the wider economic, political and social environment. We viewed his opinions as instrumental to the fund’s overall positioning and believe he added value for investors during his tenure. The fund is now managed by Stephen Bailey, who co-managed the fund alongside Jan Luthman since its launch in October 2003; and Jamie Clark, who has worked with the team since 2003 and became a co-manager in 2008.