More broadly, the likes of Capita recently warning that many stalwart income stocks may disappoint this year. This may be a weighty concern to many of you as funds in the IA UK Equity Income space are amongst the most widely held by investors as well as being very popular with FE Trustnet’s readers.
The likes of Invesco Perpetual High Income and CF Woodford Equity Income are habitually the most searched for terms on the site, reflecting the fact that income is an ongoing theme and many depend on their UK equity income dividends to provide significant parts of their overall income.
This tends to mean they hold these funds for the longer term, often in a pension portfolio, over which time you would expect a greater amount of risk to reap greater rewards. But volatility is particularly important to this profile of investor as they may not wish to see their holdings fluctuate greatly.
However, as the graph below shows, there has been a marked difference between the risk and return of funds in the IA UK Equity Income sector over the past 10 years with some of the top performing funds also scoring the lowest volatility and the worst vice versa.
The scatter graph feature on FE Analytics demonstrates this, with the x-axis showing volatility and the y-axis showing total return.
Returns vs volatility for IT sectors over 10yrs
Source: FE Analytics
While Trojan Income, Royal London UK Equity Income and Threadneedle UK Equity Income have some of the highest returns in the sector over the past five years, they also have some of the lowest volatility.
However, by comparison some of the worst performers from a total return point of view have also been the most volatile.
Tom Jemmett, fund analyst at Brewin Dolphin, notes that the figures are subject to survivorship bias, which means some of the sector’s worst performing funds have been closed or merged away and are not represented in the data. In addition, others may have left the sector after failing to meet its yield target.
However, he says that recent history could offer some examples of why funds that favour less volatile, quality stocks may have gone on to post stronger returns.
Jemmett said: “Ten years ago we were coming out of a seriously volatile time following the bursting of the tech bubble. There may have been a flight to quality over that period, as this acted as a significant tailwind to high quality investing.”
The analyst adds this would have helped during the financial crisis.
However, Evenlode Income is one of the newest funds that top the chart for both low volatility and high returns. Launched in October 2009 it has one of the lowest levels of volatility in the sector over five years and the sixth highest returns.
Performance of fund, sector and index since launch
Source: FE Analytics
“You would have thought that with the low quality rally in 2009, the more volatile funds would have made hay,” Jemmett said.
Evenlode Income manager Hugh Yarrow has a bias toward some of the highest quality stocks in the FTSE 100 – the likes of Unilever and Diageo feature in a very concentrated portfolio of around 30 stocks.
Rob Morgan, pensions and investment analyst at Charles Stanley Direct, recently named Yarrow’s fund as one that could grow considerably above its current £233m of assets.
Three funds stand out over both five and 10 years as scoring low volatility as well as posting some of the highest returns in the sector.
Martin Cholwill’s £1.7bn Royal London UK Equity Income fund has the second highest return in the sector, but has lower volatility than the FTSE All Share. Not far off is Threadneedle UK Equity Income which has even lower volatility and a few more percentage points less is the £2.1bn Trojan Income fund, which has the lowest volatility of the whole sector.
Performance of funds, sector and index over 10yrs
Source: FE Analytics
In fairness, FE Alpha Manager Leigh Harrison has only been at the helm of Threadneedle UK Equity Income since February 2006 and Royal London’s Cholwill since March 2005 but the managers’ investment style has clearly paid off.
All three funds appear on the FE Research’s Select 100 list of preferred funds. The FE Research team have similar words to say about Trojan Income and Threadneedle UK Equity Income, mostly that the two fund’s outperformance is driven by a cautious outlook that tends to emphasise capital protection over outperformance during market rallies.
This led both funds to do well, relative to their peers, during the flashpoints of 2007-8 when markets suffered deep losses. Royal London UK Equity Income, however, is said by FE Research to benefit from its historical bias to mid-caps without increasing volatility.
At the other end of the spectrum AXA Framlington Equity Income, AXA Framlington Monthly Income and Henderson UK Strategic Income have all scored the worst 10 year numbers for total return and volatility.
Managed by George Luckraft since 2002, both of the AXA funds have returned around 50 per cent over 10 years, less than half the gain in the FTSE All Share over this period as well as the average return in the sector.
Performance of funds, sector and index over 10yrs
Source: FE Analytics
Henderson UK Strategic Income is a fund of investment trusts, which goes some way to explain its high volatility as this will also factor in movements in the discount/premium of each holding.
