By STEPHEN MARRIOTT 04/12/2008
After the falls we’ve experienced in the stockmarket this year there will be a generation of investors, as there always are following stockmarket crashes, who will never invest in equities again. However, history shows that over the long term the stockmarket offers the best real returns amongst traditional asset classes, and that the main reason for this is company dividends. The compounding affect of reinvesting dividends can make a huge difference to returns.
The Barclays Equity Gilt 2008 study demonstrates the importance of reinvestment. It shows that £100 invested in equities at the end of 1899 without reinvesting income would be worth £13,580 by the end of 2007, whereas with dividends reinvested, £100 would be worth £1.64 million.
The chart below shows how this has worked more recently, showing that with dividends reinvested the FTSE All Share returns 633%, whereas the capital return is only 212% in the 23 years to the end of November 2008. Clearly a policy of targeting dividends should be core to anyone’s investment policy. However, over the same period the average return from a UK Equity Income fund is only 1.16x greater than that of the average UK All Companies fund^ (where there is no income requirement).
Source: Lipper
This may partly be explained by the criteria for the IMA’s Equity Income sector, which only require a fund in this category to produce an income in excess of 110% of the FTSE All Share yield. However, I suspect the main reason is that fund managers haven’t done a good job of picking those stocks that can consistently deliver high and growing dividends. For example, 1997 – 2001 was a difficult time for the dividend investor as over this period dividend income fell a cumulative 15%1 as companies cut dividends in the belief that they could put the funds to better use. And this year a number of equity income funds have been caught out by having large exposures to the banking sector which historically offered reliable dividends. The problem of course is that a dividend is never guaranteed.
Following the large stockmarket falls this year there are now a number of stalwart companies which are offering attractive dividends that don’t as yet appear to be affected by the fall off in economic activity. Examples include Unilever (3.8% historic yield), GlaxoSmithKline (5.1%), Centrica (6.3%) and British American Tobacco (4.4%) (Source FT, 2/12/08). Interestingly a number of these stocks continue to reappear in the portfolios of some of our most favoured equity income managers.
Two of our recommended equity income funds currently have low exposure to banks, a high weighting in blue chip stocks and benefit from experienced managers who managed money during the last recession in the early 1990s. Adrian Frost’s Artemis Income fund is currently yielding 6.2%* (30/11/08) and Neil Woodford’s Invesco Perpetual Income is currently yielding 4.6%* (31/10/08).
Long term investors looking to maximize the benefits of reinvesting of dividends should consider these two funds and thus opt for the accumulation share classes (the share class which reinvests dividends).
^ Data supplied by Lipper Hindsight
* Yield figures are historic and are provided by the underlying fund management group and reflects distributions declared over the past twelve months as a percentage of the mid-market price of the fund.
1Barclays Capital (2008 Barclays Equity-Gilt study)