Russia’s Arbat Capital makes case for dividend equities

Russia’s Arbat Capital has set its sights on dividend equities again, after selling off its dividend basket earlier this year.

The dividend equity basked formed exactly one year ago brought returns of 17.6% over less than six months when the manager sold it off in April, driven by the hike in equity valuations.

Dividends form a significant part of returns from investments, Arbat Capital says. It points to data from Morgan Stanley, which shows a long term average return from US, European and Asian equities between 9.4% and 12.3%.

In the US and Europe, only around 5% has come from price increases, while the remaining outperformance has come from dividend yields.

In Asia, the returns coming from price increases are slightly higher – 9.5% on average. But the remaining 2.8% still comes from dividends.

Now it is time to re-enter the dividend space, Arbat Capital feels. It sees this strategy as a way of hedging against the volatility on the global markets.

The recent correction of the markets due to investor concerns regarding the ability of the US government to solve the fiscal cliff problem has pushed dividend paying companies back down to attractive valuations.

At the same time, Arbat Capital expects the equity markets to grow in the next three to six months, with the fiscal cliff being postponed until the summer or autumn of next year.

It also expects Greek problems to be put on the back burner for now and China to begin stimulating its economy following the leadership change, which will drive markets further.

As a result, it expects its equity basket to perform even better this time, with the potential to make over 30% on investments within four to six months.

In a negative scenario, it expects losses to be much lower than those from investing in an index.

It anticipates the main risks around the fiscal cliff in the US and the breakup in the Eurozone, as well as a significant dividend tax hike in the US or Europe. However, the firm remains optimistic in the short term.

Its dividend basket consists of just seven names and is dominated by telecommunications firms. They are Deutsche Telekom, Tele2, Belgacom, MTS (a Russian telecoms group), Telefonica Brazil, Turk Telecom and Surgutneftegaz in Russia.

The basket avoids US equities, which are trading at higher valuations than their European peers and are expected to suffer from a dividend tax increase in the US. It also avoids Southern European countries such as France, Italy and Spain due to the higher risks they are exposed to within the EU.

Based on its own analysis and Bloomberg data, Arbat Capital estimates the basket can bring up to 32% returns in the most optimistic scenario. In a negative outlook, the dividend pay-outs are expected to protect the portfolio against any losses, with returns levelling out at 0%.

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