Summit Fund Focus: Schroders points to safety of dividends in stormy climate

In a climate where cash allocations are risky and government bonds are, too, Schroders highlights dividends as one of the few remaining areas that are growing wealth, not diminishing it.

In 2011 dividends grew by about 18% in Europe, the US, and UK, and 11.7% in Asia.

Over the past decade, the positions are reversed as Asian companies grew their dividends by 8.9% a year, the US by 5.5%, Europe and the UK by about 4%.

Presenting Schroders’ equity income products, income fund manager Ian Kelly explained: “Cash is a risk in the current environment and government bonds are not an option, however dividends are growing despite the crisis and high yield stocks are outperforming.”

Cash investors, meanwhile, must fight corrosive inflation.

It is muted now, but Kelly pointed to the 45% erosion in real terms of cash given 6% inflation, “and we believe we are more likely to see 6% inflation than 2% over 10 years. Central banks are choosing inflation over default. Ben Bernanke (Fed chairman) knows the US fiscal position is horrible, and by 2020 the US will have the same debt position as Greece.”

Income investors choosing long-term core debt face yields now at 30-year lows, all well below 2%, and at risk from inflation. By mid-September Swiss two-year debt, German two- and 10-year, US and UK 10-year paper all failed to match Schroders’ 2012 global CPI target.

As investors rotated to higher yielding credit, yields there have also fallen sharply, he noted.

The ‘yield gap’ between sub-investment grade bonds and dividends from stocks has contracted from 16% in 2008, to 2.5% now. The gap has only been narrower once since 1990. “You are facing that kind of yield pick-up for something that will never grow,” Kelly said.

He added the hunt for dividends is not at the expense of credit quality – the Schroder ISF Global Equity Yield fund typically holds companies of higher credit quality than the iShares IBOXX Global High Yield.

But what of investors who argue earnings are changeable, whereas fixed bond coupons are not, absent default, of course?

Kelly explains that in the previous market crises of the 1970s, 1980s, 1990s, and the technology bubble, MSCI Europe dividends were cut by 10% or less, even when earnings in each case declined by 30% or more. In 2009, when earnings almost halved, dividends fell by 30%, or by just 12% excluding financials.


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