Standard Life Equity Income offers income and growth at a discount

IC TIP RATING

Tip style: INCOME

Risk rating: HIGH

Timescale: LONG TERM

Although since then its discount has tightened and the trust generally trades at around par, it is still worth considering because its manager, Thomas Moore, continues to perform well. The trust also offers an attractive 3.25 per cent yield and has never cut its dividend, which has grown 288 per cent since launch in 1991. Broker Winterflood reports that it has revenue reserves equivalent to 0.94 times its most recent annual dividend.

Standard Life Equity Income Trust aims for an above-average income while providing real growth in capital and income. It focuses on dividend growth and Mr Moore seeks companies that have the potential to grow both their earnings and dividends, rather than focusing solely on those with a high level of existing dividend. He believes that the latter category usually consists of mature companies with low to negative growth prospects, and they may be value traps.

The trust can invest in smaller companies than Standard Life Investments UK Equity Income Unconstrained Fund because it is smaller, and as a closed-end fund it does not have to meet investor redemptions, so it can take a longer-term investment position. The trust has 46.1 per cent of its assets in the FTSE 250 against 23.9 per cent at the end of September 2011. In 2011 it had virtually no assets in smaller companies, whereas these now account for about 10 per cent.

A problem among UK equity income funds is that many of their holdings overlap and they are highly reliant on a small number of large-cap dividend payers, but this trust's wider approach reduces concentration risk. Charles Tan, an analyst at Cantor Fitzgerald, points out that over 50 per cent of the total dividends paid out by FTSE All-Share companies are accounted for by the top 10 dividend payers, which means typical UK equity income investors are vulnerable to an unexpected dividend cut by one or more of these companies. Standard Life Equity Income's top 10 dividend payers only account for 35 per cent of the trust's total income, with the major FTSE dividend payers accounting for about 25 per cent.

The trust recently sold shares in Vodafone (VOD), one of the FTSE All-Share's biggest dividend payers, "as its lacklustre earnings profile limits our conviction in the stock, particularly following a period of strong performance", explained Mr Moore.

The trust recently reported that since November 2011 when it began to include a larger proportion of medium-sized stocks the net asset value (NAV) total return has been 65.3 per cent compared with 35.3 per cent for the FTSE All-Share Index.

"The ability to gear and to consider smaller-cap ideas are still differentiators and over time this could work to the trust's advantage," comment analysts at Winterflood. "Standard Life Equity Income represents an attractive option for investors within the UK Equity Income sector."

The trust is on a slight discount to NAV of 1.14 per cent (at the time of writing) in contrast to a 0.15 per cent 12-month average. But if it continues to generate strong returns it could move to a premium again. So with good performance, an attractive yield and a manager with a strong record, it is still a good time to get into Standard Life Equity Income Trust. Buy.

Source: Morningstar

Source: Morningstar, as at 26 May 2014

Top 10 holdings, as at 31 March 2014

Sector breakdown