Dividend income is bouncing back

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Perpetual

Perpetual Private Insights

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Whilst there still may be a long way to go, the start of the vaccine rollout in the March quarter and overall success governments have had at containing COVID-19 in Australia, has allowed investors to look beyond the current pandemic to what the longer-term future may hold. For trust and income beneficiaries the outlook is mixed.  

The March quarter saw half-year company dividends bounce back strongly from a lean 2020, restoring a valuable source of income. Despite this, interest rates remain at record lows, making it nearly impossible to earn an income above inflation from government bonds or investment grade credit portfolios. 

In Perpetual Private’s quarterly investment report for January to March 2021 we look at the reasons for ongoing pressure on investment income and how we are positioning our portfolios to boost income in 2021.




Dividends make a comeback

Company dividend cuts and capital raisings over the course of 2020 – together with surprising resilience in some sectors – contributed to unexpectedly strong results in the February 2021 half-year company reporting season.

The good news is, we expect companies to continue to increase their dividends this year. As a result, from banks to A-REITs, we anticipate income from the equity component of portfolios to grow substantially from the lows of 2020.

Outlook for Fixed Income

Offsetting the stronger returns from equities, we are not as optimistic for the returns generated from the Fixed Income side of the book.

The RBA held cash rates at 0.10% over the quarter, significantly impacting Fixed Income returns. The Australian 10-year bond yield rose in February and March 2021, finishing the quarter with a yield of 1.83%. The rise in bond yields reflects investor concerns that the enormous government and central bank stimulus measures across the globe may trigger a surge in inflation. Despite the rise in yields, assuming inflation of around 2%, investors are still not achieving a real return on their capital.

At the same, this yield spike led to negative capital returns for Fixed Income. The Bloomberg AusBond Composite Index lost 3.2% during the March 2021 quarter.

Total return approach

Faced with reduced returns from Fixed Income, an alternative way to think about returns is to think about them in terms of ‘Total Return’– that is, consider the total return of the asset, not just whether that return comes in the form of capital growth, interest, or dividends but that all those components make up the return. This allows for more balanced portfolio diversification with the inclusion of companies with strong growth prospects – even if they pay little dividends.

As a company’s share price grows, the dollar amount of income should grow, even if the dividend yield remains below other ‘high yield’ stocks. 

Interest rates are low. How are we responding?

Official cash rates are at record lows of 0.10%. With the RBA signalling it has little intention of raising them in the next couple of years, the message is that you may need to take on more risk to generate the income you need from your portfolio.

At Perpetual Private, our goal is to help you generate the best possible return for any extra risk you take on. We have access to different types of fixed income securities, things are a bit more esoteric such as offshore markets, where we are not increasing the risk of the portfolio but seeking a bit of a premium, for example by investing in more illiquid assets.

Another area we are looking at is core real estate. A well-leased property can generate an income while also having an element of inflation protection.

We also invest in infrastructure which is more complex than core real estate as it has an operational element and a leverage element. With complexity comes extra care required, but it is possible to generate good CPI linked income from these assets.

Overall, however, in 2021 we believe the lion’s share of income will come from the equity side of your portfolio. It’s important to understand the extra risk associated with equities, and carefully balance those risks.

 



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Perpetual Private advice and services are provided by Perpetual Trustee Company Limited (PTCo) ABN 42 000 001 007, AFSL 236643. This information was prepared by PTCo and Perpetual Investment Management Limited (PIML) ABN 1800 866 535, AFSL 234426 and is used by PTCo. It contains general information only and is not intended to provide you with financial advice or take into account your objectives, financial situation or needs. You should consider, with a financial adviser, whether the information is suitable for your circumstances. To view the Perpetual Group's Financial Services Guide, please click here. To the extent permitted by law, no liability is accepted for any loss or damage as a result of any reliance on this information. The information is believed to be accurate at the time of compilation and is provided in good faith. PTCo do not warrant the accuracy or completeness of any information contributed by a third party. Any views expressed in this article are opinions of the author at the time of writing and do not constitute a recommendation to act. This information, including any assumptions and conclusions is not intended to be a comprehensive statement of relevant practise or law that is often complex and can change. No company in the Perpetual Group (Perpetual Limited ABN 86 000 431 827 and its subsidiaries) guarantees the performance of any fund or the return of an investor’s capital. Past performance is not indicative of future performance.