A focus on quality, cash-rich companies that can grow their dividend over a five-year period has been the key to the success of the Fidelity Moneybuilder Dividend
and Enhanced Income
portfolios, according to manager Michael Clark (pictured)
Clark only started his career as a portfolio manager in 2008, but has made quite an impression in a relatively small space of time, challenging the likes of Neil Woodford
and Francis Brooke
in the risk/return standings and achieving FE Alpha Manager status at the first attempt.
"The idea behind these funds is to accentuate the compounding effect of dividends on total return," said Clark.
"The importance of income on total return in the long-term has been well documented. However, rather than chasing high yields, we prefer to look at companies that are able to grow their dividend over time."
With economic growth – particularly in the UK – set to stay subdued for the foreseeable future, Clark believes a focus on defensive companies will pay off in the long-run.
"You don’t need a pick-up in GDP growth to secure dividend growth," he explained.
"I wouldn’t say I was negative about equities at the moment – indeed, a slowdown in growth can be seen as a good thing given how we achieved high GDP growth in the debt-induced boom years."
"However, 3 per cent GDP growth in the UK simply isn’t going to happen and thus looking at companies that can prop up their total return with income is a big draw."
This method of investing has paid off handsomely for Clark since taking over the Fidelity Moneybuilder Dividend portfolio in March 2008.
According to FE data, the FE five crown-rated fund is top-quartile over one- and three-year periods, as well as being one of the least volatile portfolios in the sector.
Performance of fund vs sector and index over 3-yrs
Source: FE Analytics
In the five years prior to Clark’s appointment, the portfolio was underperforming both its sector and benchmark, with more volatility.
While the fund’s overweight in defensive stocks led to a period of underperformance during the 2009 and 2010 QE-fuelled bull run, its ability to protect against the downside during last year’s slump has seen it pass its sector average and benchmark in recent months.
"We don’t hold any banks or mining stocks in the portfolio as we view them as too volatile, which means we tend to fall short when the markets are risk-on," Clark explained.
"However, in general the defensive portfolios tend to catch the market in the longer-term."
As a result, the £437m portfolio is top-five in terms of risk-adjusted returns over a three-year period and top-three over one year, beating the likes of Invesco Perpetual Income
and High Income
Risk/return in this case is measured by the Sharpe ratio, which looks at a fund's return relative to a notional risk-free investment – in this case, cash. The difference in returns is then divided by the fund's volatility.
With a one-year historic yield of 4.79 per cent, Fidelity Moneybuilder Dividend is also paying out more than the average fund in the sector, both of Woodford’s income funds, and Trojan Income
As the fund is much smaller than both Invesco Perpetual Income and High Income, it is able to hold a higher proportion of its assets in stocks outside the FTSE 100.
Pennon Group and Provident Financial – both FTSE 250 companies – are among Clark’s top-20 holdings.
Fidelity Moneybuilder Dividend is similar in size to the £595m Trojan Income fund but, with Brooke hinting that the portfolio is likely to be soft-closed at around the £1bn mark, investors may soon be forced to look elsewhere.
When picking a stock, Clark says he takes a five-year view, placing particular emphasis on a company’s ability to increase its dividend.
"We work in close contact with our analyst team to make a forecast of where we expect the company to be in five years' time," he explained.
"Of prime importance is how sustainable the dividend is and how well covered it is. This is why we like companies with a lot of cash on the balance sheet."
In spite of defensive stocks’ strong run last year, Clark rejects claims that they are expensive.
"A lot of these companies are still on low multiples," he said. "Take Glaxo, for example, which is on a lower multiple now than it was in the mid 1990s."
"We also look at credit and debt in equities, which again bodes well [for defensives]."
"Ten years ago the long-term credit yield for Glaxo was 5.7 per cent and the dividend was 2.6 per cent; this has now turned on its head, the credit is now 4.4 per cent and the yield is 5 per cent."
For an even more defensively positioned UK Equity Income portfolio, investors may wish to take a closer look at Clark’s Fidelity Enhanced Income fund, which was launched in February 2009.
Unlike Moneybuilder Dividend, the portfolio has the ability to overwrite, meaning that it can enhance its yield by taking out options on certain stocks.
Performance of funds vs sector and index over 1-yr
Source: FE Analytics
According to FE data, it is even less volatile than the Fidelity Moneybuilder Dividend portfolio, but it has returned less since launch. It is a top-quartile performer over 12 months with returns of 2.12 per cent.
With a one-year historic yield of 7.74 per cent, it is one of the highest-yielding funds in the UK Equity Income sector.
Both of Clark’s funds have a minimum investment of £1,000. The Moneybuilder Dividend fund is significantly cheaper however, with a total expense ratio (TER) of 1.2 per cent, compared with Enhanced Income’s 1.78 per cent.
Prior to becoming a portfolio manager, Clark spent five years as a pan-European equity research analyst with Fidelity, covering oil services, construction, automotive and industrials. He has over 20 years' experience as an analyst on the sell-side at JP Morgan, Enskilda and Morgan Grenfell.