Have faith in this mega dividend payer

It also helps to explain why investors and analysts have typically preferred the certainty of its larger and better-known peer Legal & General (LGEN) when it comes to UK combined asset management and life insurance players. The result has been to bake in M&G’s high dividend yields and lowly share price valuation.

But look beneath its sideways share price drift, and M&G has been the clear winner in a beaten-down sector. Its shares may be down 4 per cent since its market debut, but high, regular and rising dividends have both acted as a cushion and raised the stock’s total return to a respectable 47 per cent. That’s equal to an annualised return of 9.8 per cent, better than the 31 per cent total return from divestment-happy Aviva (AV.) and almost double the annualised 5 per cent from L&G.

Comparisons with the likes of Abrdn (ABDN) and Schroders (SDR), both of which have posted negative total returns during the period, at this point seem unfair.

And while a dividend yield approaching doubled digits looks like a red flag, it has quietly won the company some loyal followers. The question that shareholders must now answer is whether a modest but sustainable growth story can emerge from under an apparently out-of-favour rating. The evidence from the past 18 months is that a restructuring programme is starting to deliver results.

That starts with M&G's rather grand-sounding “transformation plan”, which as of September was expected to deliver £50mn in run-rate savings by the end of this year. That has included a voluntary redundancy programme that 200 employees have accepted, and which will feed through into next year’s results, although perhaps more important has been efforts to fill senior leadership positions for different segments of the business. Throw in organisational tweaks, including an efficiency drive, a more simplified org chart, better sourcing and technology improvements, and the company expects to cut £200mn of costs by 2025.

Chief executive Andrea Rossi’s push to recruit a suite of senior managers is now complete. Appointees include Clive Bolton, who joined in September from LV= to head up the life insurance arm; the former Brooks MacDonald (BRK) boss Caroline Connellan, who will reprise her most recent role as the head of the wealth division for Abrdn (ABDN); and Joseph Pinto, the former chief executive of NIM International, who has been put in charge of asset management.

On paper, that looks like a strong team. How they gel and look to cross-sell their products of course remain a work in progress. But the important point for M&G is that decisions can now be made by experts in each area, which should lead to an improved operational performance. Again, the early signs already look positive. Mutual fund performance, distribution efforts and fund flows within asset management all looked to have turned a corner in the first half of 2023, while there has been a sustained improvement in flows to the wealth arm’s PruFund franchise since the end of 2021.

A big part of the growing appeal of PruFund’s products has been their improved yields, itself the product of higher interest rates. The hardened rate environment has also been useful for life insurance companies. Having risen this year across general and life insurance policies, rates are expected to continue for at least the next 18 months, according to several industry forecasts. This is a double benefit for M&G as life insurance makes up 70 per cent of group operating profit.

The result, at a group level, could well be excess capital generation for at least that length of time. While heightened cash returns represent one option, management may conclude that the current dividend largess is sufficient. Instead, extra capital could be deployed by M&G to complete more pension transfer deals, whereby the group takes on the liabilities of pension funds. In its first move into the bulk annuity transfer market since 2016, M&G recently paid £617mn in total for two schemes, comprising an internal M&G fund and the Northern Bank pension scheme.

Of course, M&G isn’t the only life insurer fishing in this suddenly highly active pool. Which is one reason why the stock’s 28 per cent total return this year – 21 percentage points higher than rival L&G – has been slightly perplexing.

On the surface, the stocks are similar in terms of valuation, regulation, balance sheet and broad asset management-to-life insurance focus. Under the hood, it appears that investors are instead warming to M&G as a classic Maurece Schiller play on the impact corporate actions can have on share prices. Given the green shoots already evident, M&G investors should consider not what the shares are currently worth, but how much extra value its transformation plan and growth opportunities can add.

The other point to consider is that M&G has no real history to speak of in its post-Prudential incarnation. Compared with L&G’s storied history and years of consistent performance, it is only just finding its stride under a determined management team. Moving beyond the associated historical baggage may be the next step in M&G’s re-rating. After all, it can sometimes take markets years to realise the appropriate discount rate and fair valuation for a stock.   

L&G presents as a mirror image of this situation. This year’s share price weakness is not unrelated to the impending departure of the long-serving, polymathic and highly respected chief executive Sir Nigel Wilson. And while his replacement, former Santander (BNC) regional head for Europe António Simões, is an experienced and doubtless highly competent executive, he is nonetheless an unknown quantity in the UK and must prove himself to investors. Corporate handovers are always tricky affairs and for a company with L&G’s pedigree the new chief executive will be scrutinised for every nuance of strategy. While the company will deny it, a successful predecessor can hang over a tenure like the ghost at the feast.

Comparative valuations still favour M&G, whose earnings multiple of nine is slightly below that of L&G’s. At almost 10 per cent, the former’s dividend yield is also considerably better than the 8.2 per cent forecast for L&G. If M&G can meet its targets for cost control and does not take too much of a hit to its solvency ratio from higher interest rates, then arguably the potential for a higher rating is clear. The market environment is currently favourable, and the dividend is the most generous waiting payment that investors will find on the market, all of which means M&G presents a decent case to be taken seriously by investors.