Brooke: Dividend risk in UK is “underestimated”
The FE Alpha Manager believes any UK Equity Income fund with more than £2bn assets under management cannot adequately diversify its income.
The high concentration of dividend payers in the FTSE 100 is one of the biggest risks to UK Equity Income
investors, says Francis Brooke
“It’s all very well saying a fund has a yield of 4.5 per cent, but what’s crucial is knowing where the yield comes from,” said Brooke, who runs the FE five crown-rated Trojan Income
“Before the oil spill, there were plenty of funds with 9 to 12 per cent of their income coming from BP, and these found it very difficult to maintain their dividend.”
“The market is difficult, since the top-10 dividend payers account for more than 50 per cent of the total market share. We’ve sought to get this down to a third in our portfolio.”
His comments come in light of a recent FE Trustnet study that showed a number of high-profile UK Equity Income funds – including Neil Woodford’s Invesco Perpetual High Income portfolio – rely on only one company to deliver more than 10 per cent of their yield
“Vodafone contributes the most to our dividend at 7 per cent, but no single company would ever contribute more than this. This means that if we encounter an unforeseen problem, we can cope,” Brooke explained.
“BP knocked 6 per cent out of our dividend, but unlike many we were able to recoup this from other places. If it had been larger, we would have found it really difficult.”
While Nick McLeod-Clarke
of BlackRock UK Income has every faith in the likes of Vodafone and Shell being able to maintain their dividend, Brooke believes that no company is infallible.
“Here at Troy we consider absolute risk, not relative risk,” he said. “It doesn’t matter how much the company is represented on the benchmark or how strong the balance sheets are, if you’re that dependent on it you’re taking a big risk.”
Performance of fund vs sector and index over 5yrs
Source: FE Analytics
Trojan Income is currently yielding 4.34 per cent. As well as being the second-best performing IMA UK Equity Income fund over five years, with returns of 26.55 per cent, it is also the least volatile and topped its sector in 2008.
The FE Alpha Manager says the fund’s modest size – assets under management (AUM) currently stand at £665m – has helped to diversify its income sources, and again emphasised that he will soft-close the portfolio when he feels performance is under threat.
He commented: “As well as there being liquidity issues, having a fund that is too big means you naturally look at larger companies. The larger the fund, the more you have to hold in these.”
“At present, 3.6 per cent of our income comes from Glaxo, 3.5 per cent from AstraZeneca, 4 per cent from HSBC and, as I mentioned before, 5 per cent from Vodafone, which is a lot lower than many of our rivals.”
“I think I could run the same strategy at £1.5bn or even £2bn, so I wouldn’t expect there to be an issue for some time,” he added.
Troy’s other FE five crown-rated fund – Sebastian Lyon’s Trojan
portfolio – soft-closed at £1bn back in April 2011, but AUM has swelled to £2bn due to inflows from existing investors.