The numbers bring into question the strength of the recovery in the UK and have led to concerns among income investors with a UK bias.
In the third quarter of this year – which is historically when the largest chunk of UK dividends is distributed – UK companies paid out £23.3bn, £60.5m less than the amount paid out in Q2.
That means that, from an underlying point of view, dividend growth in the UK market has slowed from 7.7 per cent in the first half of the year to 6.2 per cent. It is the first time that underlying dividend growth has been lower in Q3 than in Q2 since 2008.
Justin Cooper, chief executive officer of shareholder solutions at Capita, says that although there were concerns that the amount paid out via dividends was likely to be under pressure, last quarter’s figures were surprising.
"We have been warning for some time that dividend growth would slow down. That slowdown has been greater than we expected on an underlying basis, and reflects a very soft patch in company profitability over the last year," Cooper said.
UK dividends are likely to be higher next year than they have been before, with a total payout of more than £100bn in 2014. However, the £16.6bn special dividend from Vodafone’s disposal of Verizon will be the major driver behind that figure. Capita forecasts underlying growth of 6.8 per cent for 2014.
These figures will come as very unpleasant news for UK income investors.
With cash in the bank paying next to nothing and yields from traditional fixed income securities expected to continue their upward trend, equity income has proved to be an investor favourite recently, especially as a way to combat the eroding impact of inflation.
Our data shows that the average fund in the IMA UK Equity Income sector yields 3.94 per cent, while this time last year that figure was 4.5 per cent. However, the main reason for that has been the significant re-rating of UK equities over the past 12 months.
Nevertheless, there have been growing concerns surrounding the UK dividend-paying market, with many experts now saying that managers in the UK Equity Income sector may struggle to add value through investing in UK large caps.
Charles Younes (pictured), analyst at FE Research, highlighted this point in a recent FE Trustnet article.
"For a long period now I’ve been concerned about UK Equity Income. If you look at the large cap dividend payers, they’re sitting on huge heaps of cash and they’re not using it," Younes said. "There’s very limited growth coming out of them, and though they can pay out a special dividend now and again, unless they put that cash to work they’re not going to give investors much in the way of returns."
"Dividend cover and yield is one thing, but if you’ve got no growth, it becomes very difficult to add any value," he added.
Capita’s research also highlighted that the 15 largest income-producing stocks in the FTSE All Share account for a staggering 68 per cent of all dividends paid in Q3 this year, adding to concerns that there aren’t many opportunities in the mega cap space.
Many investors are now turning to funds in the IMA UK Equity Income sector that look further down the market cap scale for yield.
Gervais Williams’ CF Miton UK Multi Cap Income and FE Alpha Manager Giles Hargreave’s Marlborough Multi Cap Income funds have already reached £200m and £460m respectively, despite the fact that both funds were only launched in 2011.
These funds have also delivered for their investors, with both sitting high in the top quartile over the last 12 months. Both also have an above-average yield, of 4 per cent.
Performance of funds vs sector over 1yr
Source: FE Analytics
Adrian Lowcock, senior investment manager at Hargreaves Lansdown, says that while investors should not panic about the research on underlying dividend growth in the UK, it does highlight the need to diversify sources of income.
"Investors should remember that this doesn’t mean that amount of dividends has shrunk, it is just the rate of growth has slowed," he explained.
"However, what you want is diversification and the ability for your income to grow. You want an income that can beat inflation and you can still get that from the UK, so there is no need to be alarmed."
"But it is important to diversify your income against shocks in the market or a fund manager leaving, as we have seen recently with Neil Woodford," he added.
Lowcock says one way investors can find diversification is by looking overseas for yield.
There are a number of funds in the IMA Global and IMA Global Equity Income sectors that have been able to increase both their income and their investors' capital over the years.
FE Alpha Manager Stuart Rhodes’ £7.3bn M&G Global Dividend fund is one that is highly rated by the FE Research team and features on the FE Select 100.
According to FE Analytics, it is a top-quartile performer in the IMA Global sector over five years with returns of 130.76 per cent and has beaten its benchmark – the MSCI AC World index – which has returned 100.5 per cent.
Performance of fund vs sector and index over 5yrs
Source: FE Analytics
Newton Global Higher Income also appears on the FE Select 100. Over five years it has returned 107.91 per cent, less than Rhodes’ fund.
It has also suffered of late, producing bottom-quartile returns in the IMA Global Equity Income sector over one year.
Over that time it has returned 12.34 per cent while the IMA Global Equity Income sector has made 17.89 per cent and the FTSE World Index 20.33 per cent.
M&G Global Dividend has an ongoing charges figure (OCF) of 1.66 per cent and requires a minimum investment of £500.
