The UK equity income sector has been the bright spot in the otherwise dull UK stock market. Many trusts benefited from the resurgence in UK large caps in 2025 and the cushion of high yields. However, there has been a real polarisation between styles: with value out in front, and quality-focused strategies trailing – by Cherry Reynard

Temple Bar has been the stand-out performer in the sector, up 96.6% versus a sector average of 51.3%. Recent performance has been driven by a significant position in the banking sector. Manager Ian Lance says that at the start of 2024, the banking sector saw a rare combination of cheap valuations and dramatically improving fundamentals.

“You don’t get that very often. Net interest margins were improving as interest rates rose, costs were falling and loan defaults were almost non-existent. Everything was going in the right direction. It was a wonderful situation. With low valuations, management teams could also put in place large buyback programmes.” The re-rating for bank shares was significant. Standard Chartered’s share price is up 142% over three years[1], while NatWest was up 109%[2]. These were among a basket of banking names held by Temple Bar.

At the opposite end, there have been certain sectors it has been important to avoid. Lance says that avoiding consumer staples has been a good decision. They have been hit by weakening volumes – potentially a consequence of widespread use of weight loss drugs and the turmoil created by tariffs. Diageo slashed its dividend in February[3]. They were also expensive and investors were no longer willing to pay a premium for them.

The other area of turmoil has been a number of the high growth data companies, including RELX, LSEG and Experian. Having initially been seen as AI winners, investors have started to fret that they won’t be able to protect their growth trajectory in the face of competition from groups such as Anthropic. They have seen their share prices tumble as part of a broader ‘AI losers’ trade that has hurt software businesses across global markets.

This has created a very difficult environment for ‘quality growth’ focused trusts. The highest profile casualty has been Nick Train’s Finsbury Growth and Income trust. It is down 3.7% over five years and 14% over one year, having been caught up in both areas of weakness. While other trusts have been hit, no-one else has suffered to the same extent.

The other dividing line has been small and mid cap exposure. The revival for UK equities in 2025 has largely been felt in FTSE 100 companies. While the FTSE Small Cap is up a creditable 12.5% over 12 months, the hoped-for revival in this part of the market has proved elusive. That has hurt trusts such as Chelverton UK Dividend.

The yield on the FTSE 250 and FTSE Small Cap is now higher than for the FTSE 100[4]. However, Andy Marsh, manager on the Murray Income Trust, isn’t tempted: “We don’t invest too deep in the mid-caps, but only focus on the top couple of deciles. We don’t need to look there to find good and attractive cash flows. Part of the problem is that these parts of the market aren’t getting enough flow from passives. It’s difficult to see a catalyst.”

Lance has taken positions in groups such as Johnson Matthey, but, at £1.2bn the trust is too large to drop significantly into the mid-caps. Job Curtis, manager of the City of London Investment trust, says that that he struggles to find good quality companies in the mid-caps. There are a lot of consumer discretionary and leisure companies, which are struggling against a lacklustre domestic growth environment. He holds ITV, but few others.

Most trusts have moved away from the banking sector as it has started to look more expensive. From here, the polarisation between the trusts may become less acute, either by design or as a function of market movements. Murray Income, newly moved from Aberdeen to Artemis, for example, is looking for under-appreciated opportunities and undervalued cash flows, likely to be more durable than the market anticipates.

Marsh says: “Using that approach, we build a portfolio of companies that some people call value, and others call growth. We think of ourselves as style agnostic. The UK market isn’t the biggest, and so it’s good not to have too great a style bias.” This leads them to different areas. They have also been weighted towards the banks, but believe it’s important to be flexible, “we need to adapt when the wind changes and leads you to different places,” says Marsh.

Curtis still has a mix of holdings, including tobacco and oil groups, but also BAE Systems “now a growth stock,” and RELX, in spite of its recent problems. Both Lance and Curtis own Swire Pacific, a Hong Kong listed conglomerate that owns Cathay Pacific and Swire Properties. Lance has started dipping his toe in the consumer sector. He recently bought Diageo. The company has a new CEO, ex-Tesco boss Dave Lewis, who is striving to turn the business around. Lance admits there are ongoing concerns about sliding volumes and whether this is an industry issue or a Diageo-specific issue, but says the valuation makes it worth a second look.

Importantly, most managers are relatively optimistic on the income and dividend opportunities they are finding in the UK market at the moment. Marsh says UK plc has seen a significant headwind from private equity. “It was very hard for listed businesses to compete on M&A, with PE raising cheap debt very easily.” The reversal of this is, they say, “quite exciting” and a catalyst for growth in UK businesses over the long-term.

Lance says it has become more difficult to find dividends – the yields in the banking sector had been as high as 7-8% but are now much lower. The board of Temple Bar recently changed the mandate of the trust so share buybacks could be added to the income account. This lifted the dividend by around 1% and has been generally well-received by shareholders. Dunedin Income Growth took the decision in 2025 to use capital and income reserves to increase dividend distributions and now has a 6% yield target. The environment is likely to get tougher for the UK, as bond yields rise in response to the war in the Middle East, choking off any nascent recovery. UK equity income managers are more naturally exposed to internationally focused large caps, and with yields still at 4-5%, investors are paid to wait out the volatility.

[1] https://uk.finance.yahoo.com/quote/STAN.L/

[2] https://uk.finance.yahoo.com/quote/NWG.L/

[3] https://www.reuters.com/world/china/diageo-cuts-annual-sales-forecast-dividend-us-demand-falters-2026-02-25/

[4] https://markets.ft.com/data/dataarchive/ajax/fetchreport?reportCode=GWSM&documentKey=688_GWSM_260319