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Income funds for the best dividend growth market of the next decade

16 December 2015

Following on from an article earlier this morning, FE Trustnet takes a closer look at some of the equity income funds in the sector Neptune’s George Boyd-Bowman believes will have the best dividend growth in the world over the next 10 years.

By Alex Paget,

News Editor, FE Trustnet

Investors don’t usually turn to Japan for dividends and FE data shows that not only does the average equity income fund in the IA Japan sector yield just 1.85 per cent, but it has also paid out far less in income than its peers in the likes of the IA UK Equity Income, IA Asia Pacific ex Japan and IA Europe ex UK peer groups.

 

Source: FE Analytics

However, there are signs that this dynamic is starting to change.

George Boyd-Bowman, manager of the Neptune Global Income fund, told FE Trustnet earlier this morning that it has never been more important to diversify away from UK equity income funds due to the likelihood that the concentrated domestic market will be hit by some large dividend cuts next year.

To counteract this, he holds more than 20 per cent in Japan (which is more than double than his average peer) as he believes improving corporate governance (thanks to Abenomics) will mean a significant proportion of the $650bn which is currently sitting on corporate balance sheets in the country will be paid out to shareholders.

“Japan is the developed market with the best prospects for the strongest dividend growth in the world over the next 10 years. Japan has always had the ability to pay higher dividends, it just hasn’t had the willingness,” Boyd-Bowman said.

“But, when you combine the two it creates an incredibly powerful and potent cocktail for dividend growth. That’s what gets us excited and we think there is a very long way to go with this story as pay-out ratios are extremely low from a global perspective.”

Of course, investors could play this theme by holding a global equity income fund which is overweight Japan (such as Neptune Global Income) but in this article we look at three funds which solely generate income from the Topix.

 

Jupiter Japan Income

One of the oldest in this space is the £577m Jupiter Japan Income fund, which has been managed by Simon Somerville since its launch in September 2005.

FE data shows that, from a total return point of view, Jupiter Japan Income has been a top decile performer in the sector since inception with gains of 65.01 per cent meaning it has nearly doubled the returns of its Topix benchmark.

Though it is underperforming over three and five years, it currently sits in the top decile over 2015 with returns of 16 per cent.

Investors will have no doubt noticed, though, that Somerville’s fund only yields 1.6 per cent at the moment. Also investors who bought £10,000 worth of the fund in January 2006 would have since only earned £1,926.44 in dividends – which is considerably less than the average UK fund.

While the fund has grown its dividend over time, as the graph below shows, that growth hasn’t been consistent.

Jupiter Japan Income’s dividend history

 

Source: FE Analytics *figures based on a £10,000 investment in January 2006


 

Nevertheless, the team at Square Mile have awarded the fund with an ‘A’ rating and says it is an interesting option for those who want to play Japan’s dividend growth story – though investors will have to be patient.

“This is a solid total return proposition. The manager aims to incrementally outperform the index on a consistent basis and while the fund does not target a yield, it is likely to pay a higher yield than the TOPIX index over time,” Square Mile said.

“Mr Somerville is a seasoned investor who applies a rational strategy, focusing on strong cash generative companies that can grow their businesses while paying relatively attractive dividends at the same time.”

“The fund is unlikely to keep up in strong rising markets when riskier stocks are popular with market participants but the emphasis on sturdy businesses ought to work well during falling markets.”

Jupiter Japan Income has an ongoing charges figure (OCF) of 0.99 per cent.

 

JOHCM Japan Dividend Growth

One of FE’s highest rated funds in the space is the newly launched JOHCM Japan Dividend Growth, given it is headed-up by the FE Alpha Manager duo of Scott McGlashan and Ruth Nash.

Unlike their JOHCM Japan fund, this portfolio is biased towards the mega-cap end of the market.

According to FE Analytics, the fund is underperforming relative to both the IA Japan sector and its benchmark since its launch in March 2014 due to its returns of 14.92 per cent. That relative underperformance has been due to its larger falls during 2015’s volatile conditions.

Performance of fund versus sector and index since launch

 

Source: FE Analytics

The fund does yield 2 per cent, though, which is more than its average peer.

In a recent FE Trustnet article, Nash pointed out that she expects that yield – and the amount of income she will be able to generate for her investors – should increase significantly over the medium to long-term.

“It is coming from a much lower base, but Japan has had the fastest dividend growth of any major market over the past 10 years. That is coming from a very low base as, in fact, pay-out ratios in Japan today are 27 to 28 per cent – well below what you are seeing in the US, UK and Europe,” Nash said in October.

“However, there is upside to that. Firstly, there is scope for dividends to rise further and secondly if profits come under any kind of pressure, those dividends are sustainable. We shouldn’t see big dividend cuts in corporate Japan anymore.”

JOHCM Japan Divided Growth has an OCF of 0.77 per cent, but like other JOCHM funds, it charges a performance fee of 15 per cent.

 

CC Japan Income & Growth

Given their structures, investors may wish to consider an investment trust to take advantage of a growing dividend culture in Japan.

David Coombs, head of multi asset investing at Rathbones, thinks this is a good idea and is considering buying the CC Japan Income & Growth trust – which only came to the market earlier this month.


 

The trust, which is managed by Richard Aston, is a concentrated portfolio of just 30 to 40 stocks and already yields more than 3 per cent.

 “I’ve been a fan of Japan growth for some time, but now the income case is strengthening. Japan has traditionally been a country where yield was scarce,” Coombs said.

“But a greater focus on governance has meant that corporate attitudes to shareholder returns are improving, not least because of pressure from foreign shareholders. It means excess corporate cashflows in Japan are close to an all-time high and increasingly this is being returned to shareholders, with a greater proportion coming from dividends as opposed to buybacks.”

“Over 40 per cent of companies in Japan have net cash using CLSA numbers and yet the dividend payout ratio on the TOPIX is only 40 per cent. This is versus 95 per cent in the US and 65 per cent in Europe – there’s scope for an increase.”

He added: “The manager believes these structural changes will outlive the Abenomics rhetoric and therefore it’s important to take a 10-20 year view on Japan.”

CC Japan Income & Growth’s shares have already jumped to a 4.8 per cent premium to NAV, though, which investors need to consider.

 

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