A well-rounded equity income fund

Funds investing in dividend-paying shares can provide a useful income, but can sometimes be overly reliant on defensive areas. JOHCM UK Equity Income is different.

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  1. Rob Morgan

One criticism levelled at some equity income funds is they lack the flexibility to include more growth-orientated areas. A rigid philosophy can mean only investing in shares that yield above a certain amount. This can be the less risky option, but it can be restrictive and mean missing out on returns from certain sectors. JOHCM UK Equity Income is different. Managers Clive Beagles and James Lowen are keen to look beyond the usual equity income staples in search of firms that can grow their dividends more quickly, though not necessarily at a uniform pace.

As ‘contrarian’ investors the managers gravitate towards out-of-favour areas where higher yields are on offer. In the past few years this has meant the inclusion of banks, financial services, construction, mining, and oil companies in the portfolio, which have, at various times, been among the areas unloved by investors. The aim is to benefit from the attractive, hopefully growing, dividends the companies pay, as well as rising share prices as they return to favour. If it goes to plan they move on to the next opportunity. Over the long term this strategy has served investors well both in terms of delivering a rising income as well as strong overall returns versus its peers and benchmark, the FTSE All Share – though past performance is not a guide to the future.

The election of Donald Trump in November 2016 was the catalyst for the outperformance of economically sensitive areas versus their defensive counterparts in the UK stock market. This particularly suited the fund in comparison to more defensively-positioned peers in the sector. For some time the managers had been actively avoiding many so-called “bond proxies” (stocks perceived as very reliable with stable dividends in areas such as beverages, tobacco and telecoms), feeling they were fully valued. As a result, relative performance was strong.

Yet over the last couple of months the outperformance of more economically-sensitive stocks has been abruptly reversed, with defensives in the ascendency. This reflects increasing investor caution on the global growth outlook from trade war threats and weakness in emerging markets. Falling energy and industrial metals prices have particularly affected the fund’s holdings in the large oil majors Shell and BP and its mining sector positions.

Negative news flow surrounding Brexit has also impacted the funds more domestically-orientated holdings. Meanwhile, a number of large, defensive stocks that the fund doesn’t own, British American Tobacco and Reckitt Benckiser in particular, had positive quarterly results, further hurting the fund’s performance relative to its sector peers.

Finally, there have been some company-specific issues such as a potential US regulatory review for Glencore and a profits warning from brick-maker Ibstock relating to higher maintenance costs to improve efficiency. In both cases the managers felt the share price reaction was excessive and they have added to their holdings. Elsewhere, positions in asset managers such as Liontrust have been helpful to overall returns.

The recent negative factors have added up to a slight hiccup in the context of prior outperformance. It is also worth noting the continued confidence of the managers in the ability of companies they hold to deliver growing dividends, which should help underpin share prices. Despite recent weakness the managers retain confidence in the mining sector, arguing that the growing use of electric vehicles should provide a positive influence over the next 20 years or more. They also believe the oil majors Shell and BP have been unfairly treated by the market and remain significantly undervalued despite a decent rise over the past couple of years.

Our view

We believe this fund may interest investors looking for income from the UK stock market, but who would prefer well-rounded exposure that includes economically-sensitive areas as well as the typical defensive areas found in many equity income funds. Historically, the fund has often outperformed its peers during strong markets, though it has been more volatile, and typically fares worse when markets fall. Partly this is due to having a significant proportion of the fund invested in smaller and medium-sized companies that are susceptible to larger price movement. We believe it could compliment other, more defensively-positioned equity income funds as part of a portfolio, and it remains on our Foundation Fundlist of funds across the major sectors.

This website is not personal advice based on your circumstances. Investors should be aware that past performance is not a reliable indicator of future results and that the price of shares and other investments, and the income derived from them, may fall as well as rise and the amount realised may be less than the original sum invested. No news or research item is a personal recommendation to deal. Investment decisions in fund and other collective investments should only be made after reading the Key Investor Information Document, Supplemental Information Document and/or Prospectus. If you are unsure of the suitability of your investment please seek professional advice.

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