Investors in UK equities have generally had a good few years, particularly those that have been mostly in the dividend-paying stocks that have generally stayed ahead of the broader market.
Appetite for income has also only increased in recent years with many investors piling into equity income funds in order to replace fixed-income exposure due to the low yields on offer and, more recently, concerns that an imminent bear market will halt the multi-decade rally in bonds.
It has also paid to choose income funds over growth funds, on average, for those who are not regularly drawing dividends and instead accumulating them into their existing portfolios, thanks to the attraction of the compounding power of dividends over time.
The graph below shows that income stocks, taken as whole, have outperformed the broader market with the FTSE 350 up 93.60 per cent over 10 years while the FTSE UK Equity Income index is up 120.98 per cent.
Performance of indices over 10yrs
Source: FE Analytics
While ‘core’ holdings within a diversified portfolio will differ from investor to investor depending on a host of factors – including age, income requirements, portfolio size and other holdings – many opt for one or a few vehicles within the UK equity income space to provide their largest portion of investment.
Many income investors perceive a degree of safety for large and mega-cap funds hunting in the FTSE 100’s ‘blue chip’ names because of the index’s robust dividend culture.
In this article we take a look at two trusts very popular with investors for precisely this reason: the £900m City of London trust and the £1.3bn Edinburgh Investment Trust.
The two trusts’ most stark differences are the length of tenure by their respective two mangers. City of London has been managed by Job Curtis since 1991 while Edinburgh has only been managed by Mark Barnett since January 2014.
Neil Woodford was Edinburgh’s previous manager but he departed Invesco Perpetual around this time to launch his own group, leaving his protégé to take up the mantle.
However, both trusts have a name as long-term holdings and a strong reputation for increasing their dividends over time.
Curtis is one of the longest serving equity income managers in the UK’s open-ended and closed-ended universes and his trust has beaten the index in nine of the past 10 full calendar years – only lagging in 2009 rally – and it is also top quartile so far in 2015.
City of London has also increased its dividend payout for an impressive 48 straight years.
Edinburgh has increased its dividend almost every year over the past forty years and has never cut it over the period while Barnett has an enviable track record at Invesco Perpetual managing open-ended funds.
William Heathcoat Amory, of Kepler Partners, an advisory boutique that specialises in investment trusts and hedge funds, recently revealed to FE Trustnet that it was backing the Edinburgh trust in terms of dividend stability as well as capital volatility.
“The trust has one of the highest revenue reserve cover figures in our portfolio. This gives us confidence that the board will be able to pay a sustained dividend for the foreseeable future,” Heathcoat Amory said.
Both Curtis and Barnett tend to favour the more-typical income stocks with both of the portfolios mostly comprised of large and mega-caps. However, they have only two of their 10 largest holdings in common: BP and AstraZeneca.
Over the only truly comparable period, sine Barnett took over, both trusts have had a good run. City of London has returned 12.35 per cent and Edinburgh has returned 22.68 per cent, the latter being the best return in the sector over this period and a near quadrupling of the FTSE All Share’s 6.8 per cent gain.
Performance of trusts, sector and index since 28 January 2014
Source: FE Analytics
However, both trusts have benefitted from a narrowing of their discounts over this period meaning the underlying movements in their portfolios are lower than the total return – although Barnett’s trust still comes out on top, as shown in the graph below.
Edinburgh is still on a small discount of 0.7 per cent and City of London is on a premium of 2.3 per cent.
Performance of share price since 28 January 2014
Source: FE Analytics
This did not stop Investment Quorum chief investment officer Peter Lowman recently upping his stake in City of London as a way to find dividends in a “stretched fixed income market”.
“[Curtis] is proven in terms of picking stocks. The 3.7 per cent yield comes up to our criteria. His current sector distribution means that his largest bets financials, consumer goods and consumer services we like,” he said.
“Banks are starting to look a bit stronger, consumer goods and services are being assisted by the falling oil price and putting it basically – we have a few more pennies in our pockets through the fall in petrol prices and we are spending it on the high street,” he added.
Financials are both the biggest sector bet for the two trusts representing just over a quarter of total assets.
Curtis has about 117 stocks in his portfolio. This is much higher than Barnett’s 40 to 60 names, but Lowman says “ticking a lot of boxes” in terms of sector allocation is a good thing.
Barnett, meanwhile, has made a number of changes to Edinburgh’s portfolio since he took charge in January last year, making it less concentrated than before and cutting down its healthcare exposure. However, he has kept up its high exposure to tobacco.
Edinburgh has a current yield of 3.6 per cent and City of London 3.8 per cent. Both are geared, with Edinburgh slightly higher at 12 per cent compared to 6 per cent.
In terms of cost City of London is cheaper. It has an ongoing charges figure (OCF) of 0.44 per cent while Edinburgh has an OCF of 0.68 per cent although a performance fee brought this up to 1.1 per cent over the last year.
