High valuations of ‘bond proxies’ mean it is a challenging environment for global equity income investors but, if the right strategy is adopted, there are still opportunities, according to Mona Shah (pictured). 
The senior collective analyst at Rathbones says that there are a number of macro headwinds on the horizon for income investors in particular, given the low interest rate environment and the high costs of defensive, dividend-paying stocks amid the hunt for yield.
However, she says the opportunities for investors lie in the global equity income funds that adopt more of a micro perspective when it comes to structuring their portfolios.
“Life is still tough for global equity income managers, as valuations of bond proxies remain elevated,” Shah said.
“Some dividends cuts have already come through in individual stocks, and it’s not inconceivable that there could be more. On this basis we have more conviction in those managers who are focusing on dividend growth.”
“By having a more concentrated strategy, they can focus on maintaining a quality portfolio, with improving fundamentals, where dividend cover is strong. This is all the more important in the current environment, where some managers who have reached for yield have found themselves stuck in value traps.”
The senior collective analyst points out that dividend culture is finally embedding itself in countries such as the US and Japan – according to her research, 83 per cent of companies in the S&P 500 index now pay dividends.
What’s more, she says that Japan is also improving its corporate governance although she points out there is a lack of income funds utilising the market.
“Managers, for whom dividend growth and sustainability are the priorities, tend to have lower yields relative to their peer group,” Shah explained.
“Their funds trade on cheaper valuation metrics, as these managers tend to view margin of safety through the lens of valuation relative to history. By casting their net beyond the classic dividend compounders, they benefit from a wider opportunity set.”
Shah lists three open and closed-ended funds that she believes fall into this category below:
First up is Daniel Roberts’ four crown-rated Fidelity Global Dividend fund, which is £624m in size and consists of 64 holdings.
The fund, while benchmarked against the MSCI AC World index, is unconstrained and Roberts chooses stocks based on their ability to provide a dividend-based total return while also focusing on capital preservation.
As such, the fund is in the top quartile for its annualised volatility, maximum drawdown (which measures the most potential money lost if bought and sold at the worst possible times), Sharpe ratio (which measures risk-adjusted returns) and downside risk (which predicts potential to decline in negative market conditions) since its launch.
Not only this, it has returned 96.43 per cent over the same time frame, outperforming its sector average and benchmark by 37.03 and 24.58 percentage points respectively. In terms of income, had an investor placed £10,000 in the fund at launch in 2013, they would have received £1,712.59 in pay-outs.
Performance of fund vs sector and benchmark since launch
Source: FE Analytics
Roberts doesn’t have a strict yield criteria when selecting stocks and is willing to hold lower-yielding companies so long as they can then grow their dividend streams faster than the market as well as offer strong free cash flow and balance sheets. The fund’s largest holdings include the likes of Johnson & Johnson, RELX and British American Tobacco.
Given that it is unconstrained, its regional weightings are very different from its benchmark – its largest weighting is in North America at 33.6 per cent which is significantly lower than the MSCI AC World index’s weighting. It also has 24.9 per cent in Europe, 14.7 per cent in the UK and 9.1 per cent in Japan while holding just 1.5 per cent in the Pacific Basin.
Fidelity Global Dividend has a clean ongoing charges figure (OCF) of 0.97 per cent and yields 2.82 per cent.
Next up is Guinness Global Equity Income, which is also four crown-rated and was launched at the end of 2010 by Ian Mortimer and Matthew Page.
Over this time, the $236m fund (which is domiciled in Ireland) has returned 87.47 per cent compared to its sector average’s return of 59.21 per cent and its benchmark’s return of 78.21 per cent. It has also outperformed its average peer during five out of the last six years on an annualised basis.
Performance of fund vs sector and benchmark since launch
Source: FE Analytics
The managers aim to maintain a concentrated portfolio of approximately 35 holdings – these are chosen from a universe of around 14,000 companies using a bottom-up stock selection process. Mortimer and Page will only invest in stocks that have produced a cash flow return of more than 10 per cent per annum for each of the last 10 years and, once this screen is passed, they will only select stocks with a market cap of more than $1bn and that have a debt-to-equity ratio of less than one.
While the fund aims to maintain fairly even weightings across its holdings, its largest constituents include BAE Systems, US insurance company Aflac and US pharma stock Merck & Co. Regionally, its exposure to emerging markets is limited to 20 per cent with no exposure to frontier markets. The managers are also only able to have a maximum 30 per cent exposure to any one sector.
In terms of its risk metrics, the fund is in the top quartile for its Sharpe ratio and in the second quartile for its annualised volatility, maximum drawdown and downside risk since launch. It has also managed to grow its dividend every year over this time frame – its initial annualised distribution based on a £10,000 investment was £349 in 2011 and this has increased by 17 per cent to £409 in 2015.
Guinness Global Equity Income has a clean OCF of 0.99 per cent and yields 3.09 per cent.
The third investment vehicle Shah has chosen is the closed-ended Bankers Investment Trust, which is headed up by Alex Crooke and is £785m in size.
The trust, which has two FE crowns, is currently trading on a discount of 3.74 per cent compared to its three-year average discount of 2.7 per cent. Over this time frame, it has returned 27.65 per cent, which is an outperformance of its FTSE All Share benchmark of 11.31 percentage points but an underperformance of its sector average of 6.4 percentage points.
Performance of trust versus sector and benchmark
Source: FE Analytics
The trust has an unconstrained approach in terms of both region and sector exposure – its largest regional weighting is currently the UK at 30.48 per cent followed by the US at 28.58 per cent and Europe at 14.34 per cent. It also has smaller weightings in Asia Pacific and Japan.
These stocks are selected using a predominantly bottom-up value process, with the team placing an emphasis on dividends and cash generation. Indeed, trust has the joint longest track record for dividend growth with the board having increased Bankers’ pay-out in each of the past 49 years.
Had an investor placed £10,000 in the trust five years ago, they would have received a total pay-out of £1,956.50 and, when it comes to risk, it is in the top quartile for its annualised volatility, Sharpe ratio and downside risk over this time. It is in the second quartile for its maximum drawdown.
Bankers Investment Trust is currently 2 per cent geared, yields 2.3 per cent and has an ongoing charge of 0.53 per cent.