Fidelity Global Dividend's underperformance reverses as markets become volatile

"The outperformance of the US has been one of the big headwinds for dividend strategies because it is a low-yield market,” says Dan Roberts, manager of Fidelity Global Dividend. “Roughly about 20 per cent of US stocks by number do not pay any dividends at all, so there’s a good chunk of the market that you can rule out pretty much straight away.”

He targets high-quality shares that that offer a healthy yield underpinned by a growing level of income, and the potential for capital growth. He places great emphasis on the sustainability of dividends and whether the current share price provides an adequate margin of safety. Mr Roberts also manages risk conservatively with the aim of minimising downside. He focuses on companies with predictable, consistent cash flows and simple, understandable business models with little or no debt on their balance sheets. But this means the fund can lag its benchmark and peers in rising markets. 

"The quality bias within the overall strategy is a permanent feature of what we do,” explains Mr Roberts. “We often get asked if we will move into more beaten up deep value within the market but that’s not what we do. The focus on quality and defence is not something we’re going to be tactical with because it affords us quite a significant advantage across a full market cycle.”

This approach has paid off over the long term, with the fund up 130.6 per cent between its launch in January 2012 and the end of October this year, against 116.7 per cent for its benchmark. And year to date 2018 the fund is up over 5 per cent, in contrast to its benchmark's 2.1 per cent return and the IA Global Equity Income sector average – a fall of 0.64 per cent.

“Where we really put a bit of distance between ourselves and the peer group is during those periods when volatility has picked up and markets are falling,” says Mr Roberts. “And, on average, we have managed to eke out a positive return over those periods.”

The underperformance of so called bond proxies – shares in sectors such as healthcare, utilities, telecoms and staples – has been an opportunity. "For the 18 months after yields bottomed in the middle of 2016 what people termed bond proxies [underperformed],” says Mr Roberts. “For most people [bond proxies] basically mean defensive yield, so sectors that have less economic sensitivity which offer you a good dividend. When the economy is strengthening in the initial stages of a rate rise cycle people move away from these stocks. They see other alternatives for income and better exposure to economic strength elsewhere within the equity market. But we argued at that time this misses the relative attractions of some of these sectors."

Areas he likes include pharmaceuticals, where he feels there are aggressive assumptions on the risk of biosimilars – medicines that are almost identical to ones that have already been licenced – coming to market. And caution on pipeline success has led to low expectations. "But they have strong balance sheets which do not have many risks and very low valuations," he explains. "The asymmetry of return that a value investor looks for seems to be evident in that sector so we are very well represented in that space."

Healthcare shares accounted for 16.8 per cent of the fund’s assets at the end of October and its 10 largest holdings included Sanofi (SAN:PAR) and Roche (ROG:VTX), which each accounted for 3.6 per cent of assets, and US-listed Johnson & Johnson (US:JNJ) which accounted for 3.2 per cent.

He also likes staples. "We just need to be wary of the level of gearing,” he explains. “But there are opportunities within this space and we favour categories such as spirits, household and personal care. We also like the emerging markets [exposure] which is not fashionable at the moment and probably means there is a tactical opportunity as people are stampeding out of this area. But – especially within the consumer space – the trend of the emerging middle class will serve you well over the longer term.”

The fund’s two largest holdings at the end of October were US-listed Procter & Gamble (US:PG) and Diageo (DGE), which each accounted for 4.1 per cent of assets. But he also notes that balance sheets across the staples sector are a concern and in some cases compromise the investment case.

Corporate leverage in general is at all-time highs. "And it’s been taken on in a lot of defensive sectors so stocks which we would otherwise be attracted to," he adds. "We like the underlying businesses but think the investment case has been compromised."

This means that Fidelity Global Dividend, unlike a number of other equity income funds, doesn't own tobacco shares such as British American Tobacco (BATS) for reasons including its high level of debt. He also thinks that positive attributes of the sector for the last 15 years, such as pricing power, stable market share and visibility on tax treatment, are no longer certain for reasons including the shift to new products such as e-cigarettes.

Fidelity Global Dividend has a 3 per cent yield and has managed to increase its dividend every year since launch. Mr Roberts says it is currently growing at about 6 per cent and is confident it can continue to grow quite comfortably in the mid single digits. This is the level at which the fund's dividend has grown in most years, except in 2016 when it increased 16 per cent due to sterling being weak.