Join our community of smart investors

Going global in the hunt for income

INTERVIEW: Stuart Rhodes tells Leonora Walters why income investors should not overlook the US, and why dividend sustainability is more important than size.
September 6, 2010

Received wisdom has it that the UK is the world capital of dividend culture. But Stuart Rhodes, manager of the M&G Global Dividend Fund, thinks this is a myth. "The best dividends tend to come from the best operators in the industry, who have the best return on capital."

More often than not, those best-in-class operators are to be found outside the UK. "The US is the leading light, and Australia is also one of the best," says Mr Rhodes. "In these markets, you can find the most profitable companies and there are quite a few of these in Asia too."

Again, that view sits uneasily with the conventional one: that in the US, dividends are for wimps and that Asian companies are plays on rapid growth, not growing income. But Mr Rhodes has the data to prove his point; he refers to the Credit Suisse Global Investment Returns Sourcebook 2010 which shows that Australia, when looking at real return yields in percentage terms between 1900 and 2009, is the highest yielding market, offering nearly six per cent, while the US is almost on a par with the UK, offering more than four per cent.

"In the UK there are just four companies (excluding investment trusts) with a 25-year record of consecutive dividend increases: Tesco, PZ Cussons, Halma and Greggs. In the US, there are 92 companies in this elite group of 25-year dividend achievers, including household names such as Coca-Cola and Johnson&Johnson."

I argue that US markets only yielded 2.4 per cent in 2009 per cent as opposed to 3.7 per cent in the UK, with predictions of a similar level for this year. But Mr Rhodes says that the US market is polarised: "The yield on the S&P 500 is much lower than that on the UK market - but you have to look at how it is broken up and then you can find a good yield. If you take out technology, nearly 19 per cent of the index, and financials, more than 16 per cent of the index, the yields are much higher. When you peel it back there are wonderful opportunities in every sector with the exception of these two – and even then there are opportunities in financials if you go down the cap scale."

However, Mr Rhodes says he does not hold too many US companies with a domestic bias, but prefers multi-nationals because they can benefit from opportunities all round the world and achieve a natural hedge in the portfolio against the fluctuations of the US dollar, as the fund does not hedge currency. "I am wary because the US dollar accounts for a lot of companies' costs, no matter where they are based," he says.

The US accounted for 33 per cent of assets as of 31 July. The fund’s allocation to Australia, meanwhile, which accounted for 7.3 per cent of assets. The 'lucky country' is a play on Asian growth; Mr Rhodes highlights APA group, Australia's largest natural gas infrastructure business which provides pipelines, as an example. The company predicts it will increase its 2010 dividend by 5.7 per cent on last year, in line with other recent distributions which have grown by around five per cent, and has offered a yield as high as nine per cent at times this year.

Another example is Santos, a gas producer which supplies both Australian and Asian customers and is further developing its Asian business via development projects and exploration investment.

Stuart Rhodes CV

Stuart Rhodes was appointed manager of the M&G Global Dividend Fund at its launch in July 2008. Between March 2007 and this time he was deputy fund manager of the M&G American Fund, after joining M&G as an analyst in January 2004 to work in the global team.

More than dividends

But the absolute level of dividend yield is not Mr Rhodes' primary consideration for stock selection, and while the fund aims for a yield above the market average, it is not the highest yielding of the income funds in the global growth sector.

"You should be very wary of just looking at market yields," says Mr Rhodes. "I like companies to grow the dividend in a rational way and create value year-after-year. I like dividend strategies which are strong over 10 to 11 years and with which you also get share price performance."

Mr Rhodes believes that dividends and capital growth are not mutually exclusive, and that consistent dividend payers deliver better share price performance as well as income. "The power of dividend discipline is important," he continues. "If a company is patient enough to do this it will invest well – it is not well understood that if you wait five to six years, the dividend yield strategy works."

"Johnson and Johnson, for example, had high returns on capital and it grows its dividend year after year because it has the money to do this. A company needs a way to regulate itself to stop it wasting money, so, for example, it doesn't spend its money on things such as silly acquisitions."

He concludes: "The biggest threat to an investor is that you pay too much for a rising dividend. If a company stops paying its dividend, the market punishes it and you get a capital loss too. You also have to waste time selling it. But if you are stringent enough on valuations you also have the luxury of a lot of strength."

That strength has manifested in a total return over one year that places M&G Global Dividend thirteenth out of more than 200 funds, with more than 17.5 per cent - beating most growth and income funds, including stablemates M&G Global Basics and M&G Global Growth.