UK equity income funds such as LF Miton UK Multi Cap Income, TB Evenlode Income and MI Chelverton UK Equity Income have delivered some of the best capital-only performance over the past five years, powering them to the top quartile of their sectors.
While many investors pay close attention to the income paid out by a UK equity income fund, the performance of its capital should not be ignored as this is a vital element of long-term success.
Indeed, a number of funds were removed from the IA UK Equity Income sector for failing to achieve its minimum yield target – until this rule was changed in 2017 to stipulate that funds have to achieve 100 per cent of the FTSE All Share’s yield over rolling three-year periods, as opposed to the previous 110 per cent requirement.
Source: FE Analytics
The funds that were moved out of the sector tend to argue that income yield alone is not a satisfactory measure of success and point to the importance of capital growth in a fund’s total return. With this in mind, and following a reader request, we have examined the capital performance of UK equity income funds.
In order to do this, FE Trustnet built a custom sector of the income units of all IA UK Equity Income funds and their former peers that have moved over to IA UK All Companies. We then compared this with their total return and how much of this came from income distributions.
The above table shows how the funds we examined have performed from a capital growth point of view over the five years to the end of June 2018. LF Miton UK Multi Cap Income comes in first place after growing capital by 55.34 per cent.
The £1.3bn fund, which holds five FE Crowns, has made an 89.96 per cent total return over the five years in question, which is the second-highest in the IA UK Equity Income sector; 61.5 per cent of this came from capital growth.
The FE Invest team, which has LF Miton UK Multi Cap Income on its Approved List of preferred funds, said: “Gervais Williams and Martin Turner adopt a highly distinctive approach to running an equity income portfolio.
“Their area of expertise is to identify smaller companies which are able to grow irrespective of the market element. Their approach is robust, as highlighted by the fund’s track record of growing dividends and achieving strong capital gains.”
In second place is the £2.4bn TB Evenlode Income fund, which is run by FE Alpha Manager Hugh Yarrow with Ben Peters as deputy. The fund has a five FE Crown rating and is a member of the FE Invest Approved List.
Performance of funds vs sector over 5yrs
Source: FE Analytics
Its capital growth over five years amounts to 51.98 per cent, which is 63.2 per cent of its 82.2 per cent total return. It is now a member of the IA UK All Companies sector, having been removed from IA UK Equity Income after failing to meet its yield target – although it retains its former peer group as a benchmark.
After being ejected from the IA UK Equity Income sector in 2016, Yarrow said: “At Evenlode, we think an income fund works best when it delivers a balance between income today and income growth in the future.
“A balance between dividends today and dividends in the future should also drive good capital growth over time. Share prices wobble around a lot in the short term. But as the holding period grows longer and longer, a share’s capital performance tends increasingly towards the growth in its dividend.”
David Horner and David Taylor’s £683.8m MI Chelverton UK Equity Income fund came in third place after making capital returns of 50.75 per cent in the five years to the end of June 2018. This is 55.9 per cent of its 90.71 per cent total return (this total return is the highest in the IA UK Equity Income sector over the period in question).
MI Chelverton UK Equity Income is another fund that looks outside of ‘typical’ equity income stalwarts, with its small- and mid-cap value bias helping to explain why it has achieved strong capital growth.
The data we examined shows a strong link between capital growth and total return. Of the 20 equity income funds with the highest five-year capital growth (shown in the earlier table), 19 are in the top 20 for total returns over the same period.
The exception is JPM UK Strategic Equity Income. However, this fund has not underperformed and is still ranked 25th out of 88 UK equity funds we reviewed in this research.
Some of the funds with strong capital growth also compare well when it comes to income payouts as well, although – as would be expected – the best performers in this respect have been the ‘enhanced income’ funds that trade capital growth for income.
Income earned on an initial £10,000 over 5yrs
Source: FE Analytics
Of the 20 funds mentioned above, eight of them – MI Chelverton UK Equity Income, Man GLG UK Income, Majedie UK Income, AXA Framlington Monthly Income, Marlborough Multi Cap Income, LF Miton UK Multi Cap Income, Slater Income and JOHCM UK Equity Income – are in the top 20 when it comes to income performance over the same period.
Flipping things on their head shows that the funds with the lowest capital growth also have some of their sector’s lowest total returns.
Given that they have intentionally sacrificed capital returns for higher levels of income, the enhanced income funds are at the bottom of the list. Fidelity Enhanced Income’s capital has decreased by 6.82 per cent (its total return over five years has been 29.86 per cent), while just 0.18 per cent of Insight Equity Income Booster’s 47.07 per cent total return came from capital.
Aberdeen UK Equity Income, Neptune Quarterly Income and HSBC Income are the three non-enhanced income funds with the lowest capital growth over the past five years. All are in the bottom quartile when it comes to total return as well.