As investors flee risk asset classes, one sector is bucking the trend, writes Morningstar OBSR's Oliver Kettlewell.
Equities remain an unloved asset class having suffered consistent annual outflows post-2008 even in the face of numerous risk-on rallies since the credit crisis. But one of the few equity peer groups to buck the trend has been global equity income and the popularity of the sector led the IMA to create a Global Equity Income sector this year. Investors have favoured global dividend funds’ sturdy qualities of regional diversification and lower volatility in returns.
Aside from lower risk, dividend funds have also delivered in terms of returns. The group of funds in the IMA Global Equity Income sector returned nearly 10% in the trailing three-year period through to October 2012, a decent return and one higher than the IMA Global Sector and a figure which even beats the IMA UK Equity Income Sector, still a more popular sector for income investors in the UK.
Could there be a case for dividend funds as a core global equity holding, in effect negating the need for a conventional global equity fund or a group of blended regional equity funds? The main case against dividend funds is that the portfolios are biased towards a few defensive sectors offering less upside protection. But this is changing with so-termed growth sectors starting to yield more dividend-paying companies.
Revealed: the winning equity peer group
For example, although the technology sector’s 1.5% yield is paltry relative to traditional heavyweight income sectors such as telecoms and utilities, the tech sector has increased its divided by 60% year to date. A number of tech firms have initiated dividends, Apple being the best known, and the US tech giant is emblematic of cash-rich companies in technology and other sectors that are choosing dividends instead of share buybacks or acquisitions.
Another cyclical example, gold miner Newmont Mining, has introduced a dividend linked to the price of gold in attempt to tap into the dividend investor. The increasing array of options in the cyclical sectors of materials and technology illustrates the evolution of the opportunity set in terms of sectors for global dividend funds.
Traditional hunting ground
Diversification is being further forced upon global income funds because one of their traditional hunting grounds for yield, banks, is a less reliable dividend payer since the financial crisis. Many financial institutions were forced to scrap their dividends in the wake of the credit crisis and the shakiness of the sustainability of dividends in the sector, a key factor emphasised by many income managers, has led global dividend funds to reduce their reliance on the sector. Exposure to financials has fallen dramatically since the sector’s peak in 2007 when the average global dividend fund held 26%, roughly halving to 13% today.
There are some dividend fund managers who go as far as talking of a secular shift by investors towards income-paying stocks. Their thesis, apart from wanting to increase inflows, is based on the fact that a large proportion of investors are approaching retirement and that these retirees’ exposure to equities should be in the form of low-risk equities, which dividend funds have traditionally been. Standard equity managers would counter that dividend stocks are expensive by historical standards while the valuations in some cyclical growth sectors are extremely attractive.
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