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Overlooking yield alone to focus on dividend growth can be a prudent strategy for income and growth investors.
Colin Morton’s Franklin UK Rising Dividends strategy was launched at the end of January 2015 when his Franklin UK Blue Chip fund was renamed and given a new focus on dividend growers. 
The fund aims to provide income and capital growth and resides in the IA UK All Companies sector rather than the IA UK Equity Income peer group, where most of the conventional equity income portfolios are found.
“The big difference – and this was done on purpose when we launched about 18 months ago – is that we don’t have a yield target relative to the benchmark,” Morton said.
“To be in the UK Equity Income sector you have to yield 10 per cent more than the FTSE All Share index; on the Franklin UK Rising Dividend fund the whole idea is to provide a good distribution to shareholders but one that will see good growth over the medium to long term, rather than giving a high absolute yield today.”
While the focus is very much on income, its approach is to only invest in companies that:
· have increased their dividend in eight of the last 10 years
· have not cut it over this period
· pay out two-thirds or less of their earnings as dividends (to make sure there is room for future growth)
One consequence of this is that its yield tends to be lower than the typical UK equity income fund, but the potential for better distribution growth is higher.
According to its most recent fact sheet, the yield on Franklin UK Rising Dividends fund stood at 3.36 per cent at the end of July. This compares with a yield of 3.52 per cent on the FTSE All Share and 4.10 per cent from the average IA UK Equity Income fund.
“It would be impossible for the UK Rising Dividend strategy to get a yield of 10 per cent above the market,” Morton – who also runs the Franklin UK Equity Income fund with a more typical strategy – added.
“You still get what I think is an attractive yield, but it's below the market. What we should be able to do is produce above market dividend growth over the medium term leading to an eventual higher income.”
“What I want to offer is above average distribution growth coming from a lower starting yield. With a standard equity income fund you'd be delighted to get income growth of inflation plus a couple of per cent but with the Franklin UK Rising Dividends fund we're looking for above-average income growth.”
While the strategy is young and therefore lacking the track record to show if it has been successful in growing distributions, it has had a strong start from a total return point of view.
Performance of fund vs sector and index between 31 Jan 2015 and 31 Jul 2016
Source: FE Analytics. Total return, bid to bid, in sterling between 31 Jan 2015 and 31 Jul 2016. Returns net of fees. Past performance is not a guide to future performance.
FE Analytics shows that between its change of strategy at the end of January 2015 and the end of July 2016, Franklin UK Rising Dividends made a 14.10 per cent total return. This puts in in the top quartile of the IA UK All Companies sector (where it is ranked 34th out of 266 funds) and is higher than the 11.90 per cent made by the FTSE All Share.
Franklin UK Rising Dividends funds’ top holdings include Royal Dutch Shell (although the fund is underweight the oil & gas sector as a whole), Diageo, Unilever, GlaxoSmithKline and British American Tobacco. Morton highlights multinational tobacco company Imperial Brands – which owns the likes of Regal, Superkings and Lambert & Butler – as a stock that possesses everything he is looking for.
“Imperial Brands is one of our largest positions. It's been a holding we've had in general for a long time in the Franklin UK Equity Income fund and it makes up about 3.5 per cent of the Franklin UK Rising Dividends fund,” he said.
“They have a phenomenally long track record of delivering consistent and reliable dividend growth. They're committed to dividend increases over the next couple of years and producing growth in the double-digits. Over the past five years they made a 10.2 per cent dividend growth compound.”
Performance of stock vs sector and index over 5yrs
Source: FE Analytics. Total return, bid to bid, in sterling between 1 Aug 2011 and 31 Jul 2016. Past performance is not a guide to future performance.
Recent months have seen the fund reduce exposure to stocks that have gone through a strong run, such as Unilever, British American Tobacco and Reckitt & Benckiser, in order to add to more domestically-oriented holdings including Whitbread, Schroders and Close Brothers, which all suffered after the Brexit result.
Aside from the potential for a future growing income stream, Morton argues that his active approach to portfolio management and the unique process behind the fund could lead to a less risky yield as it draws the focus away from companies without enough cash to pay a sustainable dividend or those with a history of growing pay-outs.
This may offer a sense of comfort in the current market environment, where a number of high-profile dividends cuts have already taken place and some fear that more will come about in the future.
This is because the fund tends to be underweight the areas of the market that are displaying higher yields – which at the moment includes sectors such as oil & gas and mining – because investors are concerned about the potential for dividend cuts.
“If we do see some dividend cuts in some of these areas, then I'd expect the Franklin UK Equity Income fund to be impacted less than the equity market - because we're very underweight these names - and the Franklin UK Rising Dividends fund would be impacted nowhere near as much as the market,” the manager said.
“That 3.36 per cent yield we're getting is, in my view, a lot more reliable.”
While the manager agrees that a strategy which focuses on growing dividends can be an attractive option for income investors or those in retirement, he adds that growth investors can also find such an approach attractive.
“In your accumulation phase it's very important to invest in companies that pay dividends because it's been proved over long periods of time that this is a very big part of your overall total return.”
The above article was prepared in partnership with Franklin Templeton and should not be taken as investment advice. The views above do not necessarily reflect the views of FE Trustnet.