The increasing popularity of global equity income funds is unsurprising. In an economic backdrop that continues to be dominated by low interest rates, attractive levels of dividend remain sought after. With equity returns likely to moderate going forward, dividend yield will continue to be an important part of the total return equation for equities.
Equity income funds have long allowed investors to have their cake and eat it, in that they provide an attractive growing income and potential for long-term capital growth. For UK investors, equity income funds have long been a staple ingredient of their investment portfolios, but diversifying equity income exposure overseas makes perfect sense.
The vast proportion of dividends generated from the UK stock market are attributable to a small number of stocks and sectors and a large proportion of the most popular UK equity income funds will have a high commonality. By contrast, taking a global view provides a much extended universe, through stock, sector and not being so reliant on the domestic economy.
Over the long term, dividend income has accounted for a substantial proportion of the total return from the UK stock market. However, if we look at the MSCI World Index over the past 20 years, up until the past decade you would have struggled to argue convincingly to investors about the merits of global equity income investing.
At that time, recent past performance would have suggested that total returns from global stock markets were driven by share price growth with the capital and total returns being closely aligned.
However, in the past decade, the impact of positive income streams being reinvested over time has a marked impact on total share price returns. If we look at the MSCI World index over the past 10 years on capital basis compared to returns with dividends reinvested, the difference is remarkable. Reinvesting dividends accounts for more than 131 per cent compared to a capital return of 87 per cent.
- Global equity income is proving an interesting alternative to UK equity income.
- The establishment of dividends is a function of the increasing maturity of developing world capital markets.
- Funds that are well diversified geographically help reduce currency risk.
The world is changing and where the UK once led the field, the developing markets of Asia, Latin America and the mature markets of continental Europe are now surging ahead. Nowadays, there is a whole world of high yielding investment opportunities to choose from. Chart 1 illustrates the geographical split of the number of FTSE World index stocks yielding more than 3 per cent.
Chart 1: Geographical split of the number of FTSE World index stocks yielding greater than 3% (Source: Newton)
North America 32%
Europe ex-UK 27%
Asia Pacific ex-Japan 20%
A confluence of factors has caused a worldwide sea-change towards dividends. Global demographics are playing a part. For example, we are all living longer and increasing ageing populations means an increasing demand for real income generating assets. In addition, governments worldwide are beginning to show a more favourable tax treatment of dividends, both from a corporate and individual point of view.
There have also been global changes on the corporation front. Companies are being forced to adopt more efficient capital structures – to avoid hostile takeovers – and are more willing to pay a dividend. The establishment of dividends and a commitment to grow them is a function of the increasing maturity and sophistication of many developing world capital markets.