After an especially tough year for dividends, JP Morgan Asset Management’s Timothy Woodhouse, manager of the JP Morgan Global Growth & Income trust, highlights three lessons income investors should take from 2020. 
Dividend concentration and high yields
The first lesson is how holding just a few high-yielding companies can create a ‘dangerous’ dividend concentration for income investors when yields are cut, Woodhouse (pictured) said.
Dividends saw significant cuts and reductions this year as companies tried to cope with the financial impact of Covid-19 and shore-up balance sheets.
But cutting high dividends isn’t something which is unique to 2020, Woodhouse said, highlighting UK telecommunications company Vodafone cutting of its dividend last year.
According to Woodhouse, if a company’s yield is high it’s usually telling investors something about what the market thinks about the sustainability of that yield.
“It might be saying to you in the case of the oil companies [for example] ‘we’re concerned about the future earnings, and we’re concerned that in five or 10 years’ time dividends may have to be cut again’,” he explained.
This is because if a company’s earnings growth is challenged and they pay out its dividends getting higher each time, increasing its ‘pay-out ratio’.
“That means you invest less in your business, so you have less chance of growing your earnings in the future,” said the JP Morgan Global Growth & Income manager.
“Eventually, that leads to a management team gets pressured by shareholders into doing something big, usually a big acquisition. And to do that they will have to lever up and they will probably cut the dividend,” Woodhouse said. “So, if you don’t have that sustainable earnings profile, eventually your dividend is going to be challenged.”
This means that if you focus on just a few companies with high yields – even if it’s geographically diversified – it’s a portfolio that is probably going to have higher dividend risk, according to Woodhouse.
Geographic diversification
The second lesson that investors should take from 2020, is against generating income from just a few markets.
As such, Woodhouse reiterated that “geographical diversification is key”.
“Regardless of views around Brexit, I think you miss out a lot of the opportunities in the rest of the world by only focusing on the UK,” he explained. “And you can look at emerging markets and the fact that China in in 30 years’ time is going to have an economy that’s double the size of the US.
“That tells you there is some really exciting opportunities there.”
Woodhouse added: “You can look at India, where you have some really incredibly high-quality companies that we can invest in.”
There are also options in the US Woodhouse said, if investors are willing to look outside of the bigger names.
He said: “You could look at the US, forgetting about the Amazons and the Googles, if you go a little bit further down and you look at some of the semiconductor companies like Nvidia, who are powering everything to do with AI and are likely power everything to do with AI for many, many years.”
Growth companies such as Amazon or Google that don’t pay out a dividend can still play a part in growing capital and generating income, however.
This also allows him to avoid dividend and geographic concentration risks because he’s not limited to investing in the few high yielding companies in a select number of markets to contribute to its dividend.
He added: “I think in the world that we’ve seen this year, you can see that some of the companies that do best are companies that don't pay a dividend at all. And you do want to have exposure to those.”
Investment trusts are the better structure option
As such, the closed-ended space can be more suited for income investors’ requirements, according to Woodhouse, giving managers more tools to generate attractive levels of income being able to hold some capital gains back for payouts or smooth dividends from retained income in leaner years.
Woodhouse finished: “Investment trusts are a good way to benefit I think the expertise that professional investors bring whilst also providing you a predictable yield.
“So, I apologise for throwing in a little bit of a pitch there, but I do I genuinely believe that it’s a good structure for investors where you [can] balance that capital appreciation with the dividend.”
Woodhouse has managed the £585.46 JP Morgan Global Growth & Income trust since 2017, along with co-managers Helge Skibeli and Rajesh Tanna who joined in 2019.
Over the past three years the trust has outperformed both the MSCI ACWI benchmark (33.17 per cent) and the IT Global Equity Income sector (19.26 per cent).
Performance of trust versus sector & benchmark over 3yrs
Source: FE Analytics
It currently has a 3.4 per cent dividend yield and is running 6 per cent gearing, with a discount of 3.1 per cent to net asset value (NAV.)
It has ongoing charges plus performance fee of 0.67 per cent. It carries a 15 per cent performance fee payable on NAV returns in excess of the benchmark’s total return and is capped at 0.8 per cent of NAV.