Join our community of smart investors

Investment trust dividends drop for first time in a decade

The effects of the pandemic finally bite
Investment trust dividends drop for first time in a decade
  • Equity investment trust dividends fall 3 per cent on last year 
  • Further declines could lie ahead, but overall the sector has proved resilient

Investment trusts have broadly been praised for the resilience of their dividends amid the pandemic but the sector is finally feeling the effect of earlier cuts. Dividends from UK-listed equity trusts fell in the first half of 2021, the first such decline since the second half of 2010.

Link Group’s latest report on trusts, which are funds structured as public companies, noted that payouts for the first six months of 2021 amounted to £892m, some £29m or 3.1 per cent lower than in the first half of 2020. Further declines are expected: Link forecasts that full year equity investment trust dividends for 2021 will fall by 3.2 per cent to £1.79bn.

The drop has been most evident in a few corners of the investment trust universe. Link notes that the biggest impact came from the popular UK Equity Income sector, home of dividend stalwarts such as City of London (CTY). Payouts from UK equity income names in the first half of 2021 were down by 9 per cent on a year-by-year basis, with a drop of £20.3m. While UK Equity Income, the biggest income-paying sector, dealt the largest dent to the total payout, others felt the pain too. Both global and European equity trusts have suffered notable declines in income generation.

If a drop in investment trust income seems curious at a time when company dividends are on the rise, this relates to a lag factor. Link notes that the recent fall in dividends reflected “the much lower income the trusts themselves were receiving from their investments in the months before”.

More broadly, the trust sector has continued to reward investors looking for shelter from the mass dividend cuts of 2020. UK dividends fell by an eye-watering 34.6 per cent on an underlying basis between January 2020 and June 2021, with global dividends down by 5.9 per cent. Yet equity investment trust dividends registered a modest rise over the same period.

This in large part stems from a useful feature of the closed-ended fund structure, where investment trusts can hold back up to 15 per cent of the dividends received in a given year and recycle them back into a portfolio. If they wish, a trust’s board can then dip into this capital, known as the revenue reserve, to top up a dividend in rocky times. This explains why many trusts have long records of dividend increases: City of London, which tops the table on this front, has upped its payout for 55 consecutive years. But as we have previously warned, boards can decide against using revenue reserves, either out of a sense of caution or because the amount “reserved” seems insufficient.

How trusts used their reserves

Unsurprisingly, trusts have made substantial use of revenue reserves in the pandemic. Link figures show that investment trusts had accumulated total reserves of £2.13bn before the pandemic struck. As of mid-July this figure had fallen by £360m to £1.77bn, with some 56 per cent of trusts having dipped into reserves. To put it more starkly, Link calculates that £22 in every £100 of investment trust dividends paid over 12 months had been funded by reserves. The group also believes this could continue for some time, noting: “Rainy-day funds are likely to be depleted further in the next three to six months, but we are optimistic that the total drawn down will come in below the £700m upper limit we considered possible in our March annual report.”

In the UK equity income space, Troy Income & Growth (TIGT), Edinburgh Investment (EDIN) and Temple Bar (TMPL) have all announced dividend cuts in the pandemic. But as with some dividend majors, the reductions may enable a more stable course of rising dividends over time. It should also be noted that trusts operating in alternative asset classes such as infrastructure have continued to pay out higher amounts through the pandemic.