Dividends: patterns, not penniesLike most walks of life, investment is subject to fads and fashions. But while fashions come and go, there are, in our view, a few key investment rules that stand the test of time: taking a long-term view, fully understanding your products, good investment diversification and the pursuit of growing dividends.
So let’s take a look at dividend – the ‘muscle’ behind long-term growth. History shows that the best long-term stockmarket rewards go to investors or investment managers who are willing to put their money into companies with the ability to achieve rising dividends. To start, let’s take a global view.
The level of income generated by investments can vary. Past performance is not a guide to future performance.
Source: Mergent’s Dividend Achievers as at 31 August 2011; Datastream as at 30 September 2011. US companies with a 25-year track record of consecutive dividend growth
During the past 10 years – a period often described as a lost decade for equity investors because many stockmarket indices today remain at similar levels to 2001 – the total cumulative return from the S&P 500 Index, including the reinvestment of dividends, was 32%*. However, investors or managers who put their cash solely into those US companies that grew their dividends for at least 25 consecutive years actually enjoyed a total return of over 136%.
So why should this be? Well there is the ‘magic’ of compounding – declared by Albert Einstein to be the eighth wonder of the world – where the reinvested income from an asset itself grows over time, leading potentially to bigger and bigger returns. Companies that grow their dividends year after year typically observe a responsible approach to capital management which their competitors lack. They invest their capital into projects that are chosen and managed responsibly.
The discipline of paying a dividend to their investors forces them to be careful with their capital. In short, a long-term pattern of rising dividends can often be the outward sign of robust internal capital discipline and may indicate a sustainable investment opportunity worthy of further investigation.
Traditionally however, many investors have simply chased yields (the amount of income an investment delivers after charges) with the view ‘the higher the yield, the better the return’. But as most good investment managers know, a high dividend yield can often be a sign of a company in distress, where the share price has collapsed, rather than a signal of a healthy company with good long-term prospects. The majority of the highest-yielding businesses fall into the former category. In fact, a recent example of how disastrous a strategy of focusing only on high yields can be was in 2008 when those who took this approach may have bought shares in certain banks that were yielding more than some savings accounts. However, this proved to be a huge mistake as the share prices of many banking stocks subsequently collapsed and their dividends were cut – and as we all know, more than a few banks did not even survive the crisis.
We believe a better approach is for investors or investment managers to find companies which not only pay a respectable dividend today, but are able to grow their dividend over time and in a sustainable manner – to focus on the consistency rather than the size of the dividend.
In order to manage risk, diversification across sectors and regions is also a golden rule for fund managers like Stuart Rhodes, manager of the M&G Global Dividend Fund. The good news is that good capital discipline is not just found in the UK but in many global companies based in countries such as Australia, Hong Kong, the US, Canada and Brazil, which have been able to deliver healthy dividend increases year after year.
Geographical diversification is not the only dimension experienced fund managers will consider – Stuart knows that choosing only ‘defensive’ companies, which can help the fund to perform in a downturn, may cause the fund to lag behind its peers in a subsequent market upturn. Stuart therefore also looks at cyclical companies (those that tend to follow the ups and downs of the economy) that have been able to increase their dividends for many years. There are companies across the globe that can demonstrate a strong capital discipline and have a robust business model, whilst operating in a more cyclical sector. By skillfully researching and choosing businesses like these for the portfolio, the fund should be better placed to perform in a variety of market conditions.
Most trends come and go, but it’s experts like Stuart Rhodes and his team of researchers and analysts who are best placed to exploit them successfully over the long term. Their success and expertise in their field has been recognised industry-wide. So what is, in our opinion, the key strategy to follow when seeking long-term investment success? Choose the best manager for your money.
Find more information on the M&G Global Dividend Fund
Please remember that past performance is not a guide to future performance, prices can fluctuate, the value of overseas investments may be affected by currency exchange rates and you may not get back your original investment. The M&G Global Dividend Fund provides a variable level of income.
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