An equity income option to suit all tastes

 
There remains considerable debate over when and by how much interest rates could fall in the year ahead. However, the longer-term trajectory is likely to be lower. This should provide a tailwind for equity income options as investors once again turn to the stock market for reliable income growth. But different types of equity income offer different flavours of investment, which investors may want factor into their decision making. The UK, for example, has the potential for recovery in the year ahead. It has been unloved by investors, who have been deterred by the weak performance of the UK economy and persistent political instability. However, the corporate sector has continued to deliver on dividends: the FTSE All Share has a higher dividend yield than any other developed market.

More recently, UK companies have also started to buy back shares. Iain Pyle, manager of Shires Income PLC, says the buybacks are a recognition that UK equities are lowly valued compared to history and other developed markets: “The UK now has a higher buyback yield than the US, the long-time leader in this regard, providing an additional source of shareholder returns.”

Pyle says he is finding a number of opportunities where a company’s prospects have been misunderstood by the market. Mid-caps in particular have proved a fertile hunting ground, and those with some consumer exposure have been overlooked on the assumption that retail spending will remain weak. He says there are pockets of strength, such as Hollywood Bowl, which has a high single digit earnings growth and a strong management team.

Any perceived sensitivity to economic growth has been a red flag for the market. Manufacturing group Hunting had been a cyclical business, but has broadened its business into new markets. This has given it greater visibility on earnings and dividends, but the change has been overlooked by the market. This is a common theme across the UK market and positions it well for recovery.
 

Asia dividends

 
Asia gives investors a different type of exposure. abrdn Asian Income Fund, for example brings together the diverse dividend opportunity set in Asia, across a number of growth themes. The growth in good quality Asian companies across all these themes enables the trust to find ideas across geographies and sectors in Asia, and to pay an increased dividend in 2023.

Yoojeong Oh, manager of abrdn Asian Income Fund, highlights the Trust’s position in technology companies, for example. Yoojeong says: “These are not low yielding internet companies, but the hardware companies, the supply chain companies that make the semiconductor chips that are the building blocks for data centres, cloud storage, and digital devices, which are benefiting from structural growth driven by generative artificial intelligence.” The fund owns a number of the large caps, such as TSMC, but also the small and mid cap companies along the value chain.

Another growth theme is the rise in the middle classes, as wealth grows and diversifies. This creates a tailwind for areas such as wealth protection and financial services. Yoojeong adds: “We hold companies such as AIA Group, an insurer listed in Hong Kong, but with a fair chunk of its business in China. It gives us access to that growing middle class within the domestic China market.”

The Trust is also invested in infrastructure assets. It holds Keppel Infrastructure, for example, which invests in infrastructure assets in the Philippines, Korea, Middle East and Australia. It has strong sustainability targets, investing in wind and solar farms, plus EV charging stations. The growth in this part of the market allowed it to pay a special dividend in 2023.
 

The US

 
Dividend strategies in the US have struggled relative to growth strategies. Soaring share prices for the ‘Magnificent Seven’ have contributed to strong gains for the S&P 500 index, and made it difficult to beat. However, these areas now look expensive and there is scope for a rebalancing towards dividend paying companies, particularly at a time of higher interest rates.

The North American Trust is diversified across a blend of sectors, including healthcare, staples, utilities, industrials and financials. It has a naturally defensive tilt that should protect investors against the impact of a weaker US economy. Manager Fran Radano says the team is focused on strong balance sheets: “Balance sheets often don’t matter for five or six years and then they matter a lot in a tougher market. Free cash flow and management strength are also important for us.”

However, dividend growth is also important: “We’re looking for companies that are growing dividends and we have a mix of 2-4% dividend growers, 5-7% and 9-10+%, and our average dividend yield is 3.5%.” He points to Merck, which balances defensiveness and growth. It has a range of leading oncology treatments across immune-oncology, tissue targeting and precision molecule targeting. L3 Harris is a defence company that has displayed modest, but consistent growth. “This is one of the last parts of the economy where supply chains are still not back to normal after the pandemic. There is a strong industry backdrop as defence spending rises and there were two industry deals last year.” This trust has around 35-40 holdings and is finding plenty of overlooked opportunities in the current market, given the narrow focus on a handful of technology companies.

Equity income is not homogenous and there are different opportunity sets in different geographic regions. Investors do not have to sacrifice growth, or recovery, to generate a high income from their investments. There is an equity income option for every taste.
 
Companies selected for illustrative purposes only to demonstrate the investment management style described herein and not as an investment recommendation or indication of future performance.
 

Important information

Risk factors you should consider prior to investing:

• The value of investments, and the income from them, can go down as well as up and investors may get back less than the amount invested.

• Past performance is not a guide to future results.

• Investment in the Company may not be appropriate for investors who plan to withdraw their money within 5 years.
• The Company may borrow to finance further investment (gearing). The use of gearing is likely to lead to volatility in the Net Asset Value (NAV) meaning that any movement in the value of the company’s assets will result in a magnified movement in the NAV.
• The Company may accumulate investment positions which represent more than normal trading volumes which may make it difficult to realise investments and may lead to volatility in the market price of the Company’s shares.
• The Company may charge expenses to capital which may erode the capital value of the investment.
• Movements in exchange rates will impact on both the level of income received and the capital value of your investment.
• There is no guarantee that the market price of the Company’s shares will fully reflect their underlying Net Asset Value.
• As with all stock exchange investments the value of the Company’s shares purchased will immediately fall by the difference between the buying and selling prices, the bid-offer spread. If trading volumes fall, the bid-offer spread can widen.
• The Company invests in emerging markets which tend to be more volatile than mature markets and the value of your investment could move sharply up or down.
• Certain trusts may seek to invest in higher yielding securities such as bonds, which are subject to credit risk, market price risk and interest rate risk. Unlike income from a single bond, the level of income from an investment trust is not fixed and may fluctuate.
• Yields are estimated figures and may fluctuate, there are no guarantees that future dividends will match or exceed historic dividends and certain investors may be subject to further tax on dividends.
• With funds investing in bonds there is a risk that interest rate fluctuations could affect the capital value of investments. Where long term interest rates rise, the capital value of shares is likely to fall, and vice versa. In addition to the interest rate risk, bond investments are also exposed to credit risk reflecting the ability of the borrower (i.e. bond issuer) to meet its obligations (i.e. pay the interest on a bond and return the capital on the redemption date). The risk of this happening is usually higher with bonds classified as ‘subinvestment grade’. These may produce a higher level of income but at a higher risk than investments in ‘investment grade’ bonds. In turn, this may have an adverse impact on funds that invest in such bonds.

  Other important information:

  Issued by abrdn Fund Managers Limited, registered in England and Wales (740118) at 280 Bishopsgate, London, EC2M 4AG, authorised and regulated by the Financial Conduct Authority in the UK.

  abrdn Fund Managers Limited, registered in England (No. 108419), 280 Bishopsgate, London EC2 4AG, authorised and regulated by the Financial Conduct Authority in the UK. abrdn Asian Income Fund Limited has a registered office at JTC House, 28 Esplanade, St Helier, Jersey JE4 2QP, JTC Fund Solutions (Jersey) Limited acts as the administrator, and the Collective Investment Fund is regulated by the Jersey Financial Services Commission.

  Find out more at www.invtrusts.co.uk/en-gb or by registering for updates. You can also follow us on social media: X and LinkedIn.

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