Investors in search of equity income find themselves in strange territory. Just how strange didn’t dawn on me until I totted up the income that the Bearbull Income Portfolio will distribute for the year just about to end. For the first time since the fund was launched in late 1998, its distribution will generate a yield less than the annual rate of UK inflation.
Not just less than but, assuming the inflation data for 2022 stays pretty much where it was in November, the yield on the Bearbull portfolio will be less than half the inflation rate – 4.3 per cent compared with an average inflation rate of 9 per cent this year. To put that into context, on average for each of its 23 years of full data, the income portfolio’s yield has been 2.6 times the annual inflation rate.
These observations need a qualification – if the yield is sustained more by the falling value of a portfolio’s capital than by the rising quantity of dividends received, then it is compromised anyway. In those years – 2019 was one such for the Bearbull portfolio – some income should be reinvested into the portfolio rather than distributed. That way, the real value of the portfolio’s capital will be protected, thus safeguarding the its ability to generate real growth in income in the future.
True, by now investors in UK equities, especially those running portfolios with a ‘value’ label, should be used to the feeling that the growth in their capital is lagging inflation. For instance, since the launch of the Bearbull portfolio the FTSE All-Share index has risen just 74 per cent; over the same period, inflation, as measured by the retail price index, has risen 117 per cent. Even so, as the chart suggests, it’s a novelty, and not a nice one, when the yield on an income portfolio also lags inflation.
Perhaps we should get used to the feeling. It is easy to imagine a repeat in 2023. The Bearbull portfolio’s yield for 2023 is unlikely to top 5 per cent – it has only done so in four of its 23 years – so will the average inflation rate fade to below that level for the coming year? Maybe, but not necessarily.
Recall that the world went into 2022 with rising inflation on its mind. The rate in the UK had risen from a depression-inducing 0.7 per cent in January 2021 to 5.4 per cent by the end of that year as consumers dusted off their wallets and the world’s supply chains gummed up. By April 2022, with higher energy prices forcing another level of inflation into all sorts of items, the rate had risen to 9 per cent, above which it has since remained. This might engender optimism to the extent that inflation will be contending with demanding comparatives for nine months of 2023, allowing depressed demand to spread its calming effects. On the other hand, inflation lives off feedback. Thus a given level of inflation – high or low – will tend to persist longer than instinct might suggest.
We shall see. Meanwhile, an encouraging thought about value funds is that they may be full of the sort of companies that overseas predators will find both enticing and cheap. Granted, this feasible notion has been around for a while and 2022 ends with the third Bearbull holding in a little over a year facing a recommended takeover.
The latest is sausage-skins maker Devro (DVO) for which a privately owned Dutch company, Saria Nederland, is offering 316.1p per share, valuing the equity at £540mn. That is almost 50 per cent more than Bearbull paid for a holding in January and 32 per cent more than the rough-and-ready value I reckoned at the time.
So, no complaints there. That said, it is always a bit miserable to see shares in another investable company leave the public market. Sure, there are still almost 2,000 companies whose shares are quoted on the London market. But the number has fallen by nearly 20 per cent since 2015 and, in practice, I would guess that fewer than one in 10 of those is a feasible holding for an income portfolio.
