Popular funds in the UK Equity Income sector are highly exposed to heavily regulated sectors with a major risk of cutting dividend payouts in the near future, FE research has revealed. 

Our data shows that in the UK Equity Income sector, some of the biggest names are overweight financials, utilities and telecoms – all heavily regulated and politically dependent sectors.

Last year star manager Neil Woodford sold a number of holdings in the water industry, claiming that regulatory burdens were having a negative impact on the sector’s growth. 

There are 12 funds in IMA UK Equity Income that have more than a 10 per cent weighting to utilities, according to data from FE Analytics, while the sector average is just 6.1 per cent. 

These include £2.2bn giant Newton Higher Income, which has 14.8 per cent exposure to the sector, as well as an overweight position in telecommunications of 11.1 per cent.

UK Equity Income funds overweight utilities

Name	% holding in utilities	Yield
Rathbone - Blue Chip Income & Growth	18.49	4.38
Fidelity - Enhanced Income	16.1	7.45
Liontrust - Income	15.94	5.73
Fidelity - MoneyBuilder Dividend	15.8	4.55
Newton - Higher Income	14.8	6.31
Troy - Trojan Income	13	4.34
M&G - Charifund	11.9	4.92
Smith & Williamson - UK Equity Income	11.1	4.23
Henderson - Global Care UK Income	10.8	4.1
Invesco Perp - Income & Growth	10.78	4.07
CF - Canlife UK Equity Income	10.64	N/A

Source: FE Analytics

Other funds overweight utilities include Liontrust Income, Fidelity MoneyBuilder Dividend, Fidelity Enhanced Income and Trojan Income. 

Graham Toone, head of research at AFH Wealth Management, says considering regulatory risk is essential when picking shares.

"There are some fund managers who are very worried about these risks," he commented. "You would not want to be overly exposed to these sectors as an income investor." 

Even though the risk of extra regulation in financials remains high in this country, with the Libor scandal adding to the pressure on banks and the insurance industry awaiting new directives from Europe, there are a number of Equity Income funds with a heavy exposure to the industry. 

JOHCM UK Equity Income has 34 per cent in financials – an overweight position of 14 per cent compared with its FTSE All Share benchmark. 

Henderson UK Equity Income, run by FE Alpha Manager James Henderson, has 28 per cent in financials, 8 per cent more than its benchmark.

In its annual report for 2012, Vodafone claimed one principal risk factor facing it this year is regulatory pressure from governments that are facing demands to lower consumer costs in a recessionary environment.

There are 11 funds in the IMA UK Equity Income sector with holdings of 7 per cent or more in the company, including Newton Higher Income, Schroder Income, Jupiter Income and Premier Income.

According to Aymeric Poizot, head of Fitch's EMEA Fund & Asset Managers group, the risk of regulation in these sectors means that investors need to consider not only the current dividend yield but the prospects in the future.  

"The sustainability of dividends in these sectors needs to be carefully considered, given recent examples of regulatory decisions; for example utilities in Germany, telecoms in France and banks throughout Europe," he said. 

"Managers tend to screen stocks by dividend yields, which can be backward looking. They need to develop a thorough strategic analysis covering barriers to entry, pricing power and structural sector trends," he finished.