Insights for Investors by Investors

Dividend hunters beware

•1-Scott-Kelly-DNR-Capital

It has been a bumper year for dividend investors as the Australian economy continues its COVID-19 pandemic recovery and companies continue to post record profits. As a result, a “dividend boom” has begun, with some analysts predicting up to $130 billion to be returned to shareholders, with the bulk coming from the banks and iron ore miners.

Last earnings season, 81 per cent of ASX 200 companies reporting full-year earnings declared a dividend, with 60 per cent increasing their dividends and the aggregate payout rising by 70 per cent. Special dividends and buybacks accounted for $15 billion of a total of $40.9 billion declared.

Scott Kelly, portfolio manager for the DNR Capital Australian Equities Income Fund, sees an “ongoing dividend recovery,” as the global economy reopens and the local economy grows. “We also see the prospect of higher dividend payout ratios as boards regain confidence and utilise franking credits, rewarding shareholders in a low-yield environment.”

Kelly says: “There are equity income strategies in the market whose managers focus on high-yield, not dollar income, and discount the role capital has to play in a retirement strategy. This can come at the investor’s expense. For example, a high yield could be the product of a low share price, which may reflect difficulties in the business. In such cases, dividends might be at risk of being cut.”

But investors should be careful not to get caught in the yield trap: companies showing a high dividend yield, but with low, or even negative, earnings growth prospects. This limits future dividends and will have a negative impact on the share price.

Over the long term, says Kelly, a high-yielding stock with low or no earnings growth and a poor capital return will pay less dollar income than a stock with a lower yield but stronger earnings and capital growth. “Dividend yield is the stock price divided by the dividend per share and a high yield could actually be a reflection of a weak share price and poor earnings growth. Commonwealth Bank (CBA) is trading at a higher dividend yield, currently around 3.2%, than Macquarie Group (Macquarie), at around 3%. CBA’s higher yield might suggest it is a better option for an equity investor seeking income.

“But Macquarie has enjoyed much higher growth then CBA over the past decade. Its dividend payments have almost quadrupled since 2011, while CBA’s have remained broadly in line. Macquarie is in the DNR Capital Australian Equities Income Fund, CBA is not,” notes Kelly.

All in all, the DNR Capital Australian Equities Income Fund has performed extremely well, returning 37.8 per cent over the 12 months to the end of October, exceeding the S&P/ASX 200 Industrials Accumulation Index which posted a 30.3 per cent return for the same period.

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