Despite their defensive reputation, equity income strategies are currently well positioned to boost exposure to the growth of the UK stock market. It’s time to challenge preconceptions, says Tom Buckingham portfolio manager for the JPM UK Higher Income Fund.
Turning defence into attack
Being an equity income investor can be lonely at times. In bear markets people don’t want to buy equities at all. And in bull markets, investors want high beta strategies allowing them to gain as much exposure as possible to the positive trends that they see driving markets higher. Income strategies—so the perceived wisdom would have you believe—are far too defensive in their approach.
One of the most common preconceptions that I encounter as an equity income fund manager is that equity income strategies are defensive in nature. Ask someone to describe a typical income portfolio and they automatically think mega cap bond proxy stocks and sectors such as pharmaceuticals and tobacco—established, ex-growth sectors with market dominating behemoths generating material amounts of cash, with limited need to reinvest into the business.
It’s fair to say that this sounds like a match made in heaven for investors with a requirement for income rather than pure capital growth. But what happens when these stocks and sectors become overly expensive, or indeed their products and/or business models become challenged? And what happens when unloved financial or cyclical sectors become under-appreciated by the market, and are able to restructure and reinvent themselves to the point that income seekers can no longer ignore them. Today’s market is a very good case study.
Unlocking value in non-traditional sectors
We run the JPM UK Higher Income Fund in an objectively style pure manner. What we mean by that is that the fund will only ever own companies with an attractively high dividend yield, and just as importantly, a dividend yield which we believe to be sustainable. With an entirely bottom up approach, we allow the fund plenty of room to breathe in terms of sector exposure, and as a consequence of our bottom up stock selection, the sector level positioning in the portfolio today is provoking much surprise when it comes to discussions with investors.
With US pricing pressure causing concerns in a number of pharmaceuticals names, and next generation products changing the shape of the tobacco industry, we are finding our best ideas in some of the less traditional areas of the stock market. This has resulted in material overweight positions in financial and cyclical sectors such as financial services, insurance and mining.
Attractive income and compelling growth potential
In a world characterised by synchronised growth, rising interest rates and more hawkish central banks, investors could be excused for believing that growth-focused strategies are the only way to access the potential positive performance of equity markets.
However, with an ageing global demographic meaning that the requirement for income is more intense than ever, combined with a dearth in supply of income from traditionally high yielding asset classes, we firmly believe that an income paying equity strategy, with a forecast 12-month dividend yield in excess of 5% (which is also positioned in cyclical and financial stocks and sectors) offers a very interesting opportunity.
Our advice... Don’t get defensive.
Tom Buckingham is portfolio manager of the JPM UK Higher Income Fund. Read more>
Investment objective: To provide income and prospects of capital growth by investing primarily in equity and equity ¬linked securities of UK companies. The Fund aims to provide a higher income yield than the yield on the FTSE™ All¬Share Index. Risk profile: The value of equity and equity-linked securities may fluctuate in response to the performance of individual companies and general market conditions.The single market in which the Fund primarily invests, in this case the UK, may be subject to particular political and economic risks and, as a result, the Fund may be more volatile than more broadly diversified funds. As the portfolio of the Fund is primarily focused on generating income, it may bear little resemblance to the composition of its benchmark. This Fund charges the annual fee of the Authorised Corporate Director (ACD) against capital, which will increase the amount of income available for distribution to Shareholders, but may constrain capital growth. It may also have tax implications for certain investors.
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