Looking beyond dividends may increase opportunities.
The demand for yield has stretched valuations of traditional high-yielding stocks. Malcolm Whitten, Portfolio Manager at Tyndall AM explains that looking at the total return to shareholders, not just the dividend, may help investors find better opportunities.
Record low bond yields and low interest rates on term deposits have been enticing investors into higher-yielding stocks.
Banks and telecommunications stocks have been major beneficiaries of this trend. In the process these sectors have become expensive with 12-month forward PEs now running at around the top-end of their ten-year average at 15 times. Where can investors find that much-needed income stream but not risk overpaying for it?
Non-traditional sectors also offer attractive yields
In an investment portfolio that is actively managed, diversification and risk management are paramount. In a share income portfolio, banking, telecommunications services and utilities companies will tend to have a large representation. Other sectors can also offer sustainable income opportunities.
Tyndall’s intrinsic value investment process identified a number of quality companies, beyond the traditional high-income sectors, which made a strong contribution to the Tyndall Australian Share Income Fund’s (‘Fund’) performance over the past year, both in respect of dividend yield and total return. These included holdings in such diverse names as Dulux Group, Woolworths, Woodside Petroleum, Henderson Group, Wotif.com and IAG.
Since its inception in November 2008, the Fund has delivered a total return of 10.7% p.a. (after fees), comprising a growth return of 5.8% p.a. and a distribution return of 4.9% p.a. (as at 31 August 2013). When including franking credits, the Fund’s holdings produced a grossed up dividend yield of 8.6% p.a. over the same period. Past performance is not an indicator of future performance.
Looking beyond the headline number
In achieving these returns, Tyndall doesn’t just focus on the headline dividend yield. It focuses on sustainable yields, earnings growth and potential capital appreciation using an intrinsic value process. The strength of a company’s balance sheet, particularly gearing levels, as well as franking levels and pay-out ratios are important indicators of the sustainability of a company’s earnings and dividend stream.
Understanding a company’s future operating cashflow and capital expenditure plans are a good way to ascertain the company’s capacity to return money to shareholders.
The most notable feature over the past five years has been an increase in returns to shareholders at the expense of future investment. This has been achieved through increasing dividend payouts as a proportion of earnings, as well as greater use of share buy-backs.
The challenge for portfolio managers is to find companies with future growth in operating cashflow, healthy balance sheets and the confidence to increase returns to shareholders.
————
Disclaimer: This article was prepared and issued by Tyndall Investment Management Limited ABN 99 003 376 252 AFSL No: 237563 (“TIML”). The information contained in this document is of a general nature only and does not constitute personal advice. It is for the use of researchers, licensed financial advisers and their authorised representatives. It does not take into account the objectives, financial situation or needs of any individual. The Tyndall Australian Share Income Fund ARSN 133 980 819 is issued by Tyndall Asset Management Limited ABN 34 002 542 038 AFSL No: 229664 (“TAML”). Investors should consult a financial adviser and the information contained in the current Product Disclosure Statement available at www.tyndall.com.au before deciding to invest. TIML and TAML are part of the Nikko AM Group.