Talking Point  

Morningstar sees slim pickings for income investors


Value investors are facing leaner times when it comes to finding income, the chief investment officer for Europe, the Middle East and Africa (EMEA) at Morningstar has said.


Speaking to Julia Faurschou, reporter for Investment Adviser, Mr Kemp said equity income investors faced a "big challenge".

He said: "The market looked pretty straightforward post-Brexit vote, where domestic earners were doing pretty poorly and international earners were doing well.

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"Since then we have seen a coming together again of valuations as those smaller and mid-cap, domestically orientated companies has gathered momentum", Mr Kemp explained.

"This means for value investors like us, there is not a lot of value out there unfortunately. Prices are pretty high and returns are pretty low so it is harder to find good opportunities."

He said what investors needed to do is to focus on managers who can "stray" from the benchmark and find the good value opportunities, rather than to stock pick themselves.

According to Mr Kemp, Henry Dixon at GLG is an example of a manager "who is focused on value and not on the index" and this is the key, he said.

"You need someone who is prepared to think independently. It is not a time for taking a broad picture because of valuation issues - you need to find the stockpickers."

Mr Kemp also said some of the best value opportunities were outside of the UK, but investors would need to think carefully about the pricing power of sterling.

Other issues on the horizon included inflation, which Mr Kemp would have a significant effect on fixed income.

This means that those investors considering fixed income should be more concerned about inflation protection rather than "traditional" forms of income such as high-quality fixed income, he said.

Mr Kemp explained: "Government bonds at the moment are really priced to producing real negative real return - which is a terrifying prospect for investors who need income.

"Therefore, investors may look for some inflation protection, either from index-linked gilts or equities that have some form of inflation hedge, rather than those traditional forms of income such as high-quality fixed income, as this is where we will have the trouble if there is a spike in inflation."

When asked where investors could go to find income without increasing risk, Mr Kemp commented that as long-term investors, people need to be clear what risk is.

He said: "Risk is really the possibility of permanent capital loss - paying too much for an asset - and not from volatility, that normal 'upsy-downsiness' of asset prices that we see.

"Really, investors need to be looking for the less well-loved assets, where they are underpriced rather than overpriced, so we would see some of the traditionally more volatile credit assets, such as local currency emerging market bonds, as being in some ways a lower-risk source of income as they are less overvalued."