It has been an eventful few years for UK equity income funds. After a period of sustained growth, a number of high-profile dividend cuts in 2015/16 flagged the risk of a tougher period approaching. At the same time, the Investment Association (IA) yield requirements led to an increasing number of funds being thrown out of the IA UK Equity Income sector for failing to meet these targets.
These two events were accompanied by the commodity price plunge of 2015, which raised the spectre of further dividend cuts. Miner BHP Billiton slashed its payout for the first time in 15 years in February 2016, while rival Rio Tinto made a series of reductions.
Crucially, though, Royal Dutch Shell and BP – two of the largest payers in the UK market – maintained their distributions. Other events have also played out in UK equity income investors’ favour.
Aided by special dividends from UK companies including InterContinental Hotels and GlaxoSmithKline, which made payouts of £1bn and £970m respectively to UK investors last year, dividend growth has continued to increase at a healthy rate despite some firms’ cuts.
The currency translation effect – when dividends increase as a result of exchange rates – has also given a helping hand to UK investors. The depreciation of sterling against the dollar means the payouts from numerous large UK companies that accrue their earnings in dollars look more attractive.
Meanwhile, the IA’s requirement for all UK Equity Income funds to yield 10 per cent more than the FTSE All-Share over a three-year rolling period has been lowered. As of 3 April, funds must merely match the index yield; the change raises the prospect of funds returning to the sector. Equity income funds run by the likes of Invesco Perpetual, Rathbones and Henderson Global Investors were previously ejected following their failure to meet what many fund managers suggested was an increasingly unrealistic standard.
In total, more than 20 funds were kicked out, and the likes of Neil Woodford’s portfolio were set to follow had the rules remained the same. Some of the funds removed from the sector have already confirmed their plans to return, including the Montanaro UK Income Fund, which was removed from the sector in 2016.
Top performers
Table 1 demonstrates the top 10 performing unit trust and investment trusts over five years, with cumulative performance based on an initial £1,000 investment over one, three, five and 10 years to 28 February 2017, as well as discrete annual performance over the past five years.
The data reveals that the average return for unit trusts over five years was £1,967.08, while the top investment trusts managed to secure a marginally higher £1,989.95 average.
Mostly owing to their access to revenue reserves (in which up to 15 per cent of income can be put aside for future use) and their ability to gear up in a bull market, investment trusts tend to see better performances over longer periods compared with unit trusts.
But the gap between open and closed-ended funds has narrowed. In Money Management’s last UK Equity Income Insight from 2014, for example, there was a £584 difference in favour of investment trusts compared with this year’s decidedly less impressive £22.80 figure.
Additionally, despite having a smaller number of 10-year-old funds, the top funds by this metric outperformed trusts by £106.10, with the average annual growth rate for unit trusts coming in 0.6 per cent higher than that seen for investment trusts.
