At the end of last year, Murray Income Trust (LSE: MUT) announced it had decided to drop Aberdeen as its investment manager and replace it with the team behind the top-performing Artemis Income Fund. The change was desperately needed.

The shares delivered a total return of just 26.9% over the five years to 19 November 2025, putting Murray Income firmly at the bottom of the UK equity income investment trusts sector rankings. Over the same period, the FTSE All-Share index returned 70.9%. Meanwhile, the Artemis Income Fund, managed by Andy Marsh, Nick Shenton and Adrian Frost, has outperformed the UK equity-income fund sector by around 1.70 percentage points per year over the past ten years.

The growth of this fund – which now has assets of around £5.3 billion – has been fundamental to Artemis's success. At the end of the first quarter, the boutique reported approximately £41 billion in assets under management, up from just £28.5 billion at the end of 2024.

Murray Income has now become the second trust mandate that Artemis has won. It also took over the Invesco Perpetual UK Smaller Companies Investment Trust – renamed Artemis UK Future Leaders – in 2025.

Murray Income's new portfolio

The Artemis team officially took over the Murray Income portfolio at the beginning of March. They swiftly restructured all of the trust's holdings to mirror Artemis Income's portfolio.

At the end of 2025, Murray's top-five holdings were AstraZeneca, National Grid, Unilever, RELX and TotalEnergies, which together accounted for 21.6% of the portfolio. These have now been replaced by Tesco, GSK, Lloyds Bank, NatWest and Aviva, which make up a similar 23.6% of the total.

The key difference between the new Artemis approach and the former Aberdeen strategy is a focus on cash flow rather than yield. The team uses free cash flow to assess how much cash a company generates and whether its dividend is sustainable. They concentrate on companies that they believe have the best potential for free cash-flow generation, overall shareholder yield (they like companies that can buy back stock as well) and long-term growth.

Comparing the old and new portfolios illustrates the difference in approach. The new portfolio is trading at a free cash flow yield approximately 50% higher than the old portfolio, based on Morningstar's data.

The top-five holdings in the Artemis portfolio also yield around 1.7 percentage points more on average compared with the Aberdeen portfolio. All in all, the new holdings are cheaper, generate more cash and offer a better overall shareholder yield. That should help the trust maintain its 52-year record of dividend growth, which has earned it “Dividend Hero” status from the Association of Investment Companies (AIC).

The future looks bright for Murray Income

While Marsh, Shenton and Frost are new to Murray, they are not new to income investing. If their record at Artemis Income is anything to go by, the trust has an exciting future.

Investors who already back their existing open-ended fund may want to consider which vehicle is likely to offer the best returns. Recent research from the AIC found that a solid majority (77%) of investment trusts have outperformed open-ended funds run by the same manager over ten years, with average excess returns of 1.3 percentage points per year.

The new managers are already capitalising on a key difference between investment trusts and open-end funds by deploying leverage to enhance returns. The trust has a leverage targeting of 8%-10%, and borrowings stood at by the end of March.

At a 7% discount to net asset value (NAV) and yielding 4.3% (versus its open-ended peer's 3.5%), Murray Income now offers cheap exposure to a sector-leading strategy.

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Selling (or “writing”) options on a portfolio to generate income has become more popular over the past two decades. The strategy took off in the zero-interest-rate era following the global financial crisis and got another boost when central banks took interest rates below zero again in the pandemic.

Investors collect a premium when they write call options on their existing shareholdings (known as “covered calls”). The logic is simple: you can earn ongoing income from a stock you already own if it doesn't pay a dividend and pick up an extra bonus even if it does. However, trading options is a complex business and can be costly if you don't know what you're doing. So there have been many attempts to create products that let individual investors use this strategy in a simpler way. These include premium-income ETFs – exchange-traded funds that hold a portfolio of stocks, write options on them and (typically) pay monthly distributions from the proceeds.

Premium-income ETFs have begun to hit the mainstream in the UK. The JPMorgan Global Equity Premium Income Active ETF (LSE: JEGP) and the JPMorgan Nasdaq Equity Premium Income Active ETF (LSE: JEQP) have over £1 billion and £2 billion in assets, respectively, while the Global X Nasdaq 100 Covered Call ETF (LSE: QYLP) has amassed around £0.5 billion.

There is also a fast-growing range of smaller products. In total, European investors have access to 57 such ETFs, according to ETF data provider ETFGI. Assets under management stood at $5.6 billion at the end of March after year-to-date inflows of nearly $1 billion.

A different approach with premium-income ETFs

Trailing yields on the most popular premium-income ETFs range from 7.7% for the JPMorgan US Equity Premium Income Active ETF (LSE: JEIP) to 11.5% for QYLP. This is much higher than the yield on a typical high-yield ETF and reflects a very different strategy.

“Option-income ETFs generate income through writing call options on stocks they hold as well as the dividend income, which is usually much lower than the options income,” notes Tom Bailey of HANetf, the ETF platform that issues the YieldMax and Rex covered-call ETFs. So while a dividend-income fund can only own stocks that meet certain yield criteria, a premium-income ETF selects stocks on their potential to earn high options premiums.

The need for liquid options markets pushes these premium-income ETFs into larger and more liquid equities, but usually different ones from a typical income fund. “Highyield ETFs often hold energy, utilities, consumer staples and other reliable dividend payers. Premium-income ETFs, by contrast, will often hold technology stocks,” says Bailey. This can provide investors with a degree of diversification in their income portfolios that they may otherwise have rejected due to a lack of dividend yield.

Premium-income ETFs aren't a replacement for income funds

Investors shouldn't view premium-income ETFs as a simple replacement for income funds. Dividend stocks tend to be less volatile than other equities, which translates into lower volatility for your portfolio value. Tech stocks are far more volatile, so while they may help the fund generate more income, that will come at the expense of bigger swings in the portfolio.

What's more, selling call options on the underlying asset means that premium-income ETFs cap equity upside (if a stock goes up a lot, the option buyer will exercise their right to buy the stock from you). So investors are trading off a few percentage points of long-term capital gains every year for immediate income returns.

Note, too, that income is not guaranteed. Options prices are volatile and depend on multiple factors: premiums and income generated will spike in periods of volatility and fall when markets are calm. For example, YieldMax Big Tech Option Income ETF (LSE: YMAP) is on a trailing yield of 27%, but that depends on high volatility in tech. Managers can sell more options to enhance the income, but that would increase leverage and risk. However, despite these drawbacks, there's clearly a growing market for these funds.

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At Janus Henderson's North American Income Trust (NAIT) we focus on US income stocks – quality franchises that consistently generate cash and have disciplined capital-allocation policies focused on investment in the business to sustain competitive advantage while paying a progressive, covered dividend. Surplus cash beyond this may be used for bolt-on mergers and acquisitions, or to repurchase shares when the stock is dislocated from long-term assessments of fair value. The NAIT has a strong record of paying a progressive dividend and growing revenue reserves since the fund's inception in 2012 (it was converted from the Edinburgh Tracker Trust). The average dividend in the portfolio is 3% and dividend growth averages an attractive 6%-7%.

Our revenue reserves can comfortably cover one year of payouts and may be used if needed. However, there was only one small dividend cut during the 2020 pandemic period and none since then. Many UK investors may not automatically think of US income stocks, but there are several that offer attractive and growing dividends. The US has a history of superior earnings growth, which can often translate into higher dividend growth, too.

How to gain exposure to US income stocks

Dell (NYSE: DELL) is a technology infrastructure company uniquely positioned to grab a slice of the next wave of corporate spending on AI applications. Its scale, global supply chain and deep relationships with customers from the private and public sectors make it a preferred supplier of AI servers and data-storage technology. As enterprises move from experimentation to deployment, Dell will benefit from recurring technology update cycles. Growing profitability is supported by the company's shift toward higher-value technology infrastructure and its disciplined cost management. Debt has been cut and capital returns support the yield. We believe Dell's valuation fails fully to reflect the durability of demand and the firm's exposure to capital expenditure on AI.

Johnson & Johnson (NYSE: JNJ) is another US income stock that offers a rare combination of earnings quality and durable growth. Following the spin-off of its consumer-health division in 2023, it is a focused, innovation-driven pharmaceutical company and a leader in medical technology that should comfortably deliver mid-single-digit revenue growth. It has a diversified drug pipeline, which reduces risk, and its franchises in oncology, immunology and cardiovascular treatments are best-in-class, which will support cash flows in the long term. The medical-technology sector is growing strongly and the worst seems to be behind the company when it comes to legal issues. This is restoring investors' confidence and valuations. With a strong balance sheet, consistent free cash flow and a long record of dividend growth, Johnson & Johnson remains a core holding in volatile markets.

Morgan Stanley (NYSE: MS) is a global leader in the capital markets. Its earnings have become more resilient following a strategic pivot toward wealth and investment management, which generates stable, fee-based revenues. These annuity-like income streams provide downside protection while preserving upside exposure to appreciation in the markets and net asset inflows. The firm's strong capital position is enabling it to buy back shares and grow dividends. We believe Morgan Stanley's improved position will deliver impressive gains tied to long-term growth in the financial markets.

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We aim to build resilient UK equity portfolios that offer both sustainable income and attractive total returns. Our team employs a disciplined, bottom-up approach to stock selection. We focus exclusively on high-quality, well-capitalised UK-listed companies, favouring those with robust balance sheets, strong cash generation and a proven record of reliable dividend payments. Our process is underpinned by considerations including macroeconomic trends.

We construct diversified portfolios of 40 to 60 holdings, aiming for low volatility through an emphasis on large-cap, quality businesses. By maintaining a repeatable, valuation-driven discipline, we strive to avoid value traps and ensure our investors benefit from both sustainable income and capital growth potential. The three stocks below illustrate our commitment to investing in firms that combine financial strength, strategic focus and appealing returns for shareholders.

Three UK blue chips stocks to consider

One of our key holdings is National Grid (LSE: NG), a critical infrastructure provider central to Britain’s energy transition. The company is embarking on a substantial investment programme, with plans to spend £60 billion over the next five years. This capital deployment is aimed at scaling up capacity to meet growing demand for electricity driven by the electrification of transport, heating and industry.

National Grid’s investments also underpin the UK’s shift towards renewable energy, reinforcing its pivotal role in a low-carbon future. With a regulated asset base, long-term earnings visibility and inflation-linked revenues, National Grid offers resilient financial returns and defensive characteristics, making it a core holding for income-focused investors.

Another core position is Unilever (LSE: ULVR), a global leader in the consumer-staples sector. Unilever’s portfolio includes many of the world’s most trusted household brands, ensuring steady demand even in challenging economic environments. The firm’s commitment to innovation and premiumisation has helped it sustain pricing power and foster loyalty from consumers.

Unilever continues to deliver consistent sales growth and improving margins while rewarding shareholders through progressive dividends. In times of market uncertainty, we find Unilever’s defensive qualities and cash generation particularly appealing.

A third significant holding is British American Tobacco (LSE: BATS). Our overweight position in the tobacco sector benefits from high dividend yields; however, our investment thesis for BATS is based on more than just its high yield. The company is actively repositioning itself for the future, investing in next-generation products such as vapour and oral nicotine, which are gaining traction with consumers worldwide.

At current levels, BATS trades at an attractive valuation relative to its earnings and cash-flow potential. In our view, this combination of capital growth prospects, income generation, and strategic repositioning makes BATS a compelling opportunity. While tobacco remains a controversial sector, we believe that the risk/reward profile for BATS is particularly favourable given its financial strength and ongoing transformation.

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“The true investor… will do better if he forgets about the stock market and pays attention to his dividend returns.” – Benjamin Graham

Dividend income has always been one of the key contributors to equity-market returns, especially in periods of volatility or bear markets. In the 1970s and 2000s, both periods of significant market volatility for the S&P 500, virtually all of the index’s returns came from income, according to data compiled by Bloomberg and Guinness Global Investors. In the 1970s, the index recorded growth of 76.9%, with 17.2 points coming from price appreciation and 59.7 from dividend income. In the 2000s, the index fell by 24.1%, but dividends added 15 points for a total return of -9.1%.

The longer one stays invested, the more critical dividends become. Guinness Global’s data, going back to 1940, reveal that, over rolling one-year periods, the total contribution from dividend income to total return was just 27%, but that number grew to 57% over a rolling 20-year period. They also reveal that $100 invested at the end of 1940, with dividends reinvested, would have been worth approximately $525,000 at the end of 2019, versus $30,000 with dividends paid out. In this period, dividends and dividend reinvestments accounted for 94% of the index’s total return.

The same trend has been observed in the UK. Between 1 January 2000 and 31 December 2019, the FTSE 100 delivered an average annual return of just 0.4%. However, if you include dividends, the index has actually returned 122% over the same period (or 4% a year), according to Schroders’ calculations.

Headwinds for dividend stocks during the pandemic

Still, there’s a reason the figures presented only go up until 2019. Since the pandemic, this relationship has broken down. The latest data from S&P Global show that, since 1926, dividends have contributed about 31% of the total return for the S&P 500, while capital appreciation has contributed 69%. That’s mostly down to the performance of the past five years.

Since the end of 2021, dividend stocks, as defined by the S&P 500 Dividend Aristocrats index – S&P 500 constituents that have followed a policy of increasing dividends every year for at least 25 consecutive years – have produced a total return of just 9% a year compared with 15.6% for the broader S&P 500 index. This decade, dividends have added just 12% to the S&P 500’s total return, the lowest contribution on record, says Hartford Funds.

As Ian Lance, co-manager at the Redwheel and Temple Bar Investment Trust, notes, equity returns have been “driven by a positive re-rating of equities, particularly in the US and particularly in technology stocks”. Dividend stocks were also hit disproportionately hard in the pandemic years. During 2020, $220 billion of dividends were either cut or paused, according to Janus Henderson.

Research by Goldman Sachs found that more than 80% of US dividend exchange-traded funds (ETFs) underperformed the S&P 500 during the 2020 equity drawdown period, and half of them did not bounce back as strongly as the index in the subsequent recovery.

Dividend stocks also “tend not to perform well when interest rates rise”, as Alan Ray, investment trust research analyst at Kepler Partners, notes. “Investors drawn to conservatively managed dividend-paying companies when interest rates were close to zero now find they can buy ‘risk-free’ UK gilts with yields of 4% or 5%, or even just keep cash in a savings account,” says Ray.

When to trust the dividend yield

Despite the headwinds for dividend stocks over the past five years, history shows they can be a safe haven in periods of volatility and uncertainty. What’s more, many income stocks are now trading at relatively undemanding valuations compared with their growth peers, suggesting there’s a bigger margin of safety with these equities in the event of a market downturn.

There’s no official definition of what makes a good income stock, but there’s one thing most of the research on the topic agrees on, and that’s a correlation between yield and quality, or rather the lack of it. While a dividend stock with a high yield might seem attractive as an income play, more often than not the yield is a reflection of traders’ doubt about the sustainability of the payout.

As Martin Connaghan, co-manager of Murray International Trust, notes, “there is no point in being drawn in by a high dividend yield… because that yield is most likely unsustainable and hence false. Stocks that have, on the face of it, very high yields can be vicious value traps if dividends are subsequently cut.”

In fact, research shows that, rather than chasing high yields, investors should instead look to companies offering yields around the 2% to 4% mark. Yield itself should not be used as a gauge of quality. The best way of evaluating the sustainability and quality of a dividend payout is to analyse the quality of cash flows. In business, cash is king. Cash flow gives a good indication of management’s approach to capital allocation.

As Imran Sattar, portfolio manager of the Edinburgh Investment Trust, notes, “For stocks with higher yields it is important to understand the sustainability of that dividend, how much the dividend is covered by earnings and free cash flow, or ongoing capital generation in the case of a bank… and also to think about whether there is anything on the horizon that could change the cash-flow dynamics such as an increased need for investment.”

This view is echoed by Connaghan, who says, “The ability to sustain and grow dividends is essential. Companies with a high cash-conversion ratio, dividend cover and free cash-flow yield should be in a much stronger position to do this.”

Free cash flow is generally defined as the cash flow generated by operations, excluding the costs of running the business and capital expenditures. In a traditional capital allocation framework, if a firm has free cash to spend, it should first reinvest it back into its operations if it can achieve an attractive and sustainable return on investment. If this opportunity is not available, the company should use the money to reduce debt, and if it has no debt, return the money to investors.

Cash flow figures give us a real, unabridged version of what management is doing with a company’s funds. Investors often turn to earnings before interest, tax, depreciation and amortisation (Ebitda) as a proxy for cash flow, as that’s the metric companies usually like to present. However, this ignores essential business costs, such as the replacement of capital equipment, interest on debt and taxes.

Similarly, a simple dividend cover calculation, which generally takes earnings per share divided by the dividend per share, also provides a misleading picture. Earnings per share do not account for all capital expenditure, particularly on long-term assets, which can be extremely costly for capital-intensive companies. When a company pays a dividend, the money leaves the business. That means the capital must be truly surplus to requirements to prevent problems emerging at a later date.

History is littered with companies that have paid out too much during the good times and have struggled with weak balance sheets and a lack of shareholder support in the bad.

The best dividend stocks

The best dividend stocks are those in companies that strike a balance between operational costs, including capital expenditures, and prudent balance-sheet management, along with sensible dividend policies. And they avoid the damaging concept of a “progressive dividend policy”. Progressive policies envisage the dividend rising steadily year after year. They are designed to provide security for investors. In fact, they do the opposite.

Companies always have and always will go through cycles, and making a commitment to increase a dividend year after year, no matter what, forces management into wrong decisions. It’s difficult to cut a dividend when such a policy is in place, which often puts firms in difficult positions, having to pay out more than they can afford.

Some of the most sensible dividend policies are based on small regular payouts, with annual special dividends based on profit throughout the year. This gives more flexibility, allowing management to announce additional distributions as needed without putting undue stress on the balance sheet. Managers can also choose to alternate between dividends and share buybacks, the latter being easier to turn on and off depending on the business environment.

FTSE 100 insurance giant Admiral is an excellent example. Car insurance can be a volatile and unpredictable business. It moves between a hard market when insurance prices are rising and profits are plentiful and a soft market where competition intensifies, prices fall and insurers have to stomach big losses. Managing a business through this cycle requires financial flexibility and a strong balance sheet, so Admiral cannot afford to commit itself to an unsustainable dividend policy. Instead, it commits to distribute 65% of its post-tax profits annually as a regular dividend, supplementing these distributions with special payouts.

For example, for the first half of the year, Admiral declared a regular dividend of 85.9p per share and a special dividend of 29.1p per share, for a total distribution of 115p, or 88% of post-tax profit. This was a pretty hefty interim distribution for the group. In 2021, a bumper year following the pandemic, which forced a change in driving habits and a substantial reduction in accidents, the company’s annual dividend payout reached just under 280p per share. However, in the following years, as drivers returned to the road and started crashing into each other, the company reduced its distribution in line with falling profits. For the 2023 financial year, it paid out just 103p across both its interim and final dividends.

Another example is CME Group. It pays a regular quarterly dividend, equivalent to a yield of about 2% per year. It supplements this with a special distribution at the end of the year based on annual trading performance. Last year, for example, the company paid out four regular dividends of $1.15 per share and one final special dividend for the year of $5.25.

The perils of a regular dividend policy became all too clear in the mining sector back in 2016. That year, commodity prices slumped as China’s previously meteoric growth started to splutter to a halt, leaving mining giants such as BHP, Rio Tinto, Glencore and Anglo American in a difficult position. Not only had these companies made a commitment to hefty, regular, progressive dividends based on past profitability, they had also spent and borrowed heavily to fund growth.

As commodity prices and revenue plunged, something had to give. BHP cut its interim dividend by 75%, the first cut since 1988, and abandoned its progressive dividend policy. Rio also slashed its dividend in half and Glencore was forced into a messy restructuring involving a $2.5 billion cash call, as well as a dividend cut.

In another example, BT had to cut its dividend in 2020 when management realised the company needed to spend more on its fibre build-out to keep up with the competition. This was a big blow for income investors as prior to the cut BT was often touted as one of the UK market’s top income plays.

Where to hunt for dividend income

Sensible capital allocation is a good indicator of dividend quality, as is the overall quality of the business. Quality can be defined in many different ways. Warren Buffett summed it up quite well in his letter to shareholders of Berkshire Hathaway in 1996: “Your goal as an investor should simply be to purchase, at a rational price, a part interest in an easily-understandable business whose earnings are virtually certain to be materially higher five, 10 and 20 years from now.”

To put it another way, a quality company is one that has a strong competitive advantage and a long runway for growth. A strong competitive advantage also typically translates into higher-than-average profit margins, providing the company with ample cash to invest in marketing, growth and debt repayment, and to return funds to shareholders.

James Harries, co-manager at STS Global Income & Growth Trust, says the best income stocks are “predictable, resilient, high-quality businesses” you can “say something sensible about on a five-,seven- and 10-year view”. That often means sticking with the companies that he describes as “steady as she goes” – they often “grow slower, but [grow] more persistently”.

A great example of the strategy, and a recent addition to the portfolio, is Nike. “It’s the highest quality global sports brand,” notes Harries, and though the company is going through some turbulence, “I’m pretty confident that we’re buying a really high-quality asset at a very attractive valuation”. Nike is one of the best-known and valuable consumer brands in the world, boasts a gross profit margin of more than 40%, and has billions of dollars in net cash on the balance sheet. It’s also rewarding shareholders, with $591 million in dividends in the first half of 2026 and $18 billion returned via share buybacks since June 2022.

The utilities sector can also be a good place to hunt for income. “Often a utility company operates in a regulated sector that is supported by a long-term concession contract, which will stipulate the return that can be generated over the life of the concession,” notes Jacqueline Broers, co-portfolio manager at Utilico Emerging Markets. As a result, cash flows can be more “resilient” and “predictable” than those of other sectors. “All of which translates into a more sustainable long-term dividend payout.”

Broers highlights the example of IndiGrid Infrastructure Trust, which owns 41 power projects comprising 17 operational transmission projects, three greenfield transmission projects, 19 solar generation projects, and battery energy storage (BESS) projects located across 20 states and two union territories in India. The average remaining contract life on the company’s transmission assets is just under 26 years, with contracted revenues underpinning the company’s dividend yield of about 10%.

The other advantage utilities tend to have is the prohibitive replacement cost of their assets. Take UK-based National Grid, which owns the majority of the UK’s high-voltage transmission network, comprising thousands of miles of cables and transmission stations. Building these assets from the ground up would be virtually impossible today, not to mention the vast cost. That gives the company a robust competitive advantage.

Utilities aren’t the only companies that can have such an edge. Connaghan points to the likes of Grupo ASUR, a Mexican-listed airport operator with 16 assets across Central and Latin America. “Its key asset is Cancun airport and the company has seen its passenger numbers increase by a compound annual growth rate of 6% over the last 35 years,” he says. “Such was the financial strength of this business in the earlier part of this year that in April, they announced two 15-peso special dividends in addition to a regular dividend of 50 pesos. This put the stock on a 14% dividend yield.”

The fund manager also highlights the likes of Enbridge, a Canadian pipeline business which transports and stores natural gas and oil through its network, which spans North America. The company has grown its dividend for 30 years in a row. “This type of business is far less exposed to the underlying shifts in the commodity prices themselves, as 98% of its Ebitda comes from assets backed by either regulated returns or take or pay agreements,” he notes.

Investment trusts for dividend income

The structure of an investment trust lends itself to income investing. Not only do they give investors access to a well-diversified portfolio of income stocks, but they can also pay dividends out of both capital and income, unlike ETFs and other open-ended investments. That means trusts are more likely to be able to sustain their dividends in periods of market volatility. Trusts with a global mandate also have far more flexibility in where they can invest so they can pick the best income, quality and growth plays in the world.

JP Morgan Global Growth and Income (LSE: JGGI), Murray International (LSE: MYI), Scottish American (LSE: SAIN) and STS Global Income & Growth (LSE: STS) all have a global mandate. Ecofin Global Utilities and Infrastructure (LSE: EGL) has a global mandate within its utility sector. Others, such as Law Debenture (LSE: LWDB) and Temple Bar (LSE: TMPL), have a UK focus, but with some international holdings.

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At the heart of the global financial markets are the exchanges, such as the London Stock Exchange, the New York Stock Exchange, and the Nasdaq. The function they fulfil in the market is straightforward, yet vital. Exchanges match buyers and sellers and publish the data on the trades. They’re also responsible for bringing assets to market, which can range from shares in public companies to contracts on commodities and interest rates. Most exchanges don’t own the companies that are listed – they only facilitate buying and selling by market participants and take a cut for the privilege.

The CME Group (Nasdaq: CME) is a little different. It is the largest futures and options exchange in the world and, unlike other exchanges, it owns the futures contracts traded on its platforms. These range from the E-Mini S&P 500 contract to interest-rate futures, crude oil, cattle and even bitcoin. For example, more than one million contracts of WTI oil futures and options trade daily, with approximately four million contracts of open interest on the exchange. In this case, one contract is equivalent to 1,000 barrels of oil. The most liquid contract on the exchange, and indeed in the world, is the Three-Month SOFR Futures contract, used for hedging interest-rate exposure.

CME Group has long-term potential

The CME Group’s edge lies in its market position. Liquidity begets liquidity – the more traders there are in the market, the easier and cheaper it is to buy and sell. Along with the advantage of scale, the CME Group’s position in the market for debt futures means it’s well-positioned to capitalise on ballooning government deficits around the world.

Where the company lacks exposure, however, is in the equity futures market. Of all the major exchanges, it has one of the lowest levels of exposure to equity markets. Overall, 18% of revenue in 2024 came from equity contracts, compared with 27% for interest rates, 13% for energy and 10% for agricultural commodities.

The company’s growth over the past five years provides a good indication of its long-term potential. The number of contracts traded across its platforms has jumped from around 18 million a day on average in the first quarter of 2019 to around 30 million. Meanwhile, the revenue per contract has steadily increased. In equities, revenue per contract is expected to rise from $0.529 in 2022 to $0.635 in 2026, according to UBS’s estimates. The overall group average revenue per contract is expected to have risen from $0.643 to $0.689 by 2026.

That might not seem like much on a contract-by-contract basis, but when CME facilitates the trade of 30 million contracts a day, revenue of $0.689 per deal adds up. The group’s Ebitda margin has risen from 67.4% to 70.3% since 2022.

Trading is just part of its offering. CME Group also sells market data. This is becoming an increasingly important part of all global exchanges. LSEG, which owns the London Stock Exchange, generates only 3% of its revenue from trading. A total of 12% of the CME Group’s revenue comes from the sale of data, which is generally far more profitable than trading activity. In the third quarter, CME’s revenue from market data reached a record high, up 14% due to expanding demand, particularly in the Asia-Pacific and Europe, the Middle East, and Africa regions.

CME Group expansion

Steady, but profitable growth has been the name of the game for CME. However, it’s now capitalising on two trends to accelerate expansion. The first is crypto. The group has launched a range of crypto contracts and in the third quarter it facilitated the trading of 340,000 contracts per day, up by more than 225% year-on-year. The group plans to accelerate this growth with the introduction of 24-hour trading.

The second is increased trading in the retail sector. Retail investors have surged into the US futures and options markets since the pandemic, aided by trading apps and easy leverage. Management is leaning into this expanding market. It recently signed an agreement with sports-betting platform FanDuel, which will provide access to approximately 13 million potential new retail accounts.

The exchange has also launched products to facilitate trading in smaller volumes, such as one-ounce gold futures as well as more flexible products, such as weekly agricultural options. As well as these levers, the group is also a leader in AI and machine learning. It’s been using AI to launch new products and reduce settlement and trading times, as well as administration.

CME Group's income kicker

With multiple routes to growth over the coming years, CME Group has all the hallmarks of a growth play. But unusually for US growth stocks, it also has an income kicker. The group pays a regular dividend, supplemented by special dividends. Last year, it paid out $10.80 per share and this year it’s paid out four regular quarterly dividends totalling $5 per share, with the final special dividend yet to be announced (last year, the final payout was $5.80). It’s not inconceivable that the total dividend in 2025 could exceed $11 per share, a yield of 4%. With net cash on the balance sheet (net of regulatory assets) and an Ebitda ratio in the 70s, CME has the capacity to maintain this payout.

Based on the current growth trajectory, analysts at UBS have the stock trading at about 19 times 2029 earnings. That’s not demanding at all for a business that’s consistently registered steady, high-margin growth and has a record of returning cash to investors. CME appears to be an attractive hedge against market volatility and uncertainty with an added growth bonus in the form of its exposure to crypto contracts.

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Chancellor Rachel Reeves is said to be eyeing an increase to dividend tax in the Budget to bring it more in line with income tax, in what would be a blow to some business owners and investors.

Dividend tax is paid by investors who invest in dividend paying stocks and shares outside of an ISA or a pension. This income is taxed differently to income from earnings.

But many self-employed limited company businesses also pay themselves via a mixture of salary and dividends from their own company profits, so they would be hit by a hike too – potentially to the tune of thousands of pounds more in tax a year.

Reeves is said to be looking at raising the basic rate of dividend tax in the Budget from its current level of 8.75% to something closer to the basic rate of income tax, which is 20%, the Telegraph reported.

The Resolution Foundation, which has close ties to the Treasury, has said the basic rate of dividend tax should be increased to at least 16.5%. However a 4 percentage point hike to the levy, coupled with a cut or abolition to the £500 tax-free allowance offered to investors, was more likely, the Telegraph said.

Such a move could reportedly be expected to raise nearly £2bn in extra funds.

A Treasury spokesperson said they would not comment on speculation ahead of the Budget.

End of the dividend tax-free allowance?

Removing the £500 tax-free allowance would mean even the smallest retail shareholder would have to inform HMRC of their investments.

The allowance has been sliced back repeatedly in recent years. It was halved in April 2024 from £1,000 but a little under a decade ago in 2016 when it was introduced it was significantly more at £5,000.

No change is expected to the higher and additional rates of dividend tax, which, at 33.75% and 39.35% respectively, are much closer to the corresponding rates of income tax.

Dividend tax was last put up by Conservatives in 2022, by 1.25 percentage points across the board.

The self-employed and pensioners are already expected to be worse off after the Budget if a mooted increase in income tax goes ahead.

While for employed workers the income tax rise would be offset by a cut in National Insurance, self-employed people don’t pay NI in the same way so won’t benefit. Likewise anyone over state pension age doesn’t pay National Insurance anyway.

What could an increase in dividend tax cost the self-employed?

Increasing dividend tax would likely mean self-employed directors – who typically mainly pay themselves via dividends from their company – would pay thousands more a year in tax.

MoneyWeek asked accountancy firm RSM to crunch the numbers.

The current basic rate for dividends is 8.75%. We assume a usual set-up for a business owner where they take a tax-free salary of £12,570 and then £37,700 in dividends to use up the basic rate band and bring total income to £50,270.

The business owner would currently incur income tax of £3,255 a year. This is based on taking the £37,700 in dividends, minus the £500 dividend allowance, multiplied by the 8.75% rate of dividend tax.

If the dividend tax rate was increased to 12.75%, the business owner’s tax burden rises to £4,743 a year.

But they could incur income tax of as much as £6,138 a year, based on rumours the dividend tax rate could rise to as high as 16.5%.

So, an increase in the dividend tax rate from its current basic level of 8.75% to the 12.75% rate would be an annual increase in income tax of £1,488 a year. To the 16.5% rate it would be an annual increase of £2,883 a year in extra tax burden on business owners.

Chris Etherington, private client tax partner at RSM UK, said: “If the 16.5% basic rate for dividends was introduced, the overall tax burden in the basic rate band would be virtually identical, regardless of whether profits were extracted as salary or dividends.

“However, the timing of payment of tax would differ, as you would be looking at higher corporation tax bills and income tax payments through self-assessment for dividends, rather than monthly payments through PAYE for a salary.

“The lower rate of tax on dividends is widely viewed as a reward for the risks that business owners take for being entrepreneurial, growing the economy and creating jobs. Therefore, an alignment of the tax on dividends and salaries could be very sensitive.

“However, it’s worth noting that the rates of tax for salary and dividends are already very closely aligned at the higher and additional rates of income tax.”

The chancellor has finally admitted that “further measures on tax” will be announced in the Budget on 26 November. “Those with the broadest shoulders” – the ever-growing number of higher- and top-rate taxpayers – are likely to bear the brunt of it. Meanwhile, pensions, traditionally a bastion of tax efficiency, have begun to look less appealing, thanks to limits on what you can contribute, restrictions on tax-free cash and the prospect of death taxes of up to 67% following changes in the last Budget.

Against this backdrop, venture-capital trusts (VCTs) look startlingly attractive. When you support young British companies by investing in VCTs, you could receive up to 30% income-tax relief – a tax break of up to £60,000 if using the full £200,000 VCT allowance. In addition, any dividends VCTs pay are tax-free. This could be particularly valuable now the dividend tax-free allowance is at a historic low of £500.

And despite the economic woes of the past few years, VCTs have continued to deliver a regular stream of dividend payments. Over the last five years active generalist VCTs have on average paid dividends totalling 32% of the starting net asset value (NAV), rising to 68% over ten years. No wonder, then, that experienced investors keep on turning to VCTs.

Venture capital trusts to consider

The long-established British Smaller Companies VCTs have been a favourite among investors for years. This year, British Smaller Companies VCT (LSE: BSV) and British Smaller Companies VCT 2 (LSE: BSC) raised £9.5 million in the first 24 hours of the offer opening. The two VCTs target business-services companies. The portfolio includes some impressive outfits such as Unbiased, a platform that reviews financial advisers and is expanding rapidly in the US. Another investment is digital special-effects studio Outpost VFX, which has worked on projects such as Captain America: Brave New World and The Lord of the Rings: The Rings of Power. Over the five years to September 2025, the VCTs have paid cumulative dividends equivalent to 40.9% (BSV) and 43.0% (BSC) of the starting NAV of each VCT.

Consider also the three Northern VCTs: Northern Venture Trust (LSE: NVT); Northern 2 VCT (LSE: NTV); and Northern 3 VCT (LSE: NTN). They target more established firms with growth potential. Manager Mercia’s sweet spot is regional businesses (more than half of the portfolio is outside London and the South East) in the healthcare and technology sectors. This is an area where Mercia is achieving success after success. The latest example is The Beauty Tech Group, which allows people to apply beauty techniques such as laser therapy at home. It floated last month at a £300 million valuation. The VCTs target annual dividends of 4.5% to 5% of NAV. Over the five years to September 2025, the VCTs have paid cumulative dividends worth between 29% and 35% of starting NAVs.

The Triple Point Venture VCT (LSE: TPV), meanwhile, brings something different to the table. It’s a newer VCT and it targets earlier-stage companies. That is when competition, and consequently valuations, tend to be lower and the potential returns higher.

And this approach is starting to bear fruit: the VCT already bagged a high-profile exit when credit-checking platform Credit Kudos was acquired by Apple just two years after Triple Point invested. The VCTs target an annual dividend of 5% of NAV. Over the five years to September 2025, the VCT has paid cumulative dividends equivalent to 15.6% of the starting NAV.

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Manulife CQS New City High Yield Fund (LSE: NCYF) aims to provide investors with a high gross dividend yield (currently 8.8%) and the potential for capital growth by investing mainly in undervalued, high-yielding fixed-interest securities. Around 87% of the portfolio is in fixed-interest securities, with 13% in equities (there is a 20% limit on equity exposure). With respect to currencies, 69% of the portfolio is in sterling, 18% in US dollars and 13% in euros.

As one of the smaller fixed-income funds, NCYF can participate in highly attractive small corporate-bond issues, which are often inaccessible to larger funds owing to their minimum-size requirements. The manager’s prudent risk-management focus has resulted in only three defaults since the fund’s inception in 2007 and enabled NCYF to increase the dividend every year for 18 years.

Three overlooked companies to consider

The largest holding is Shawbrook Group 12.103% Perpetual. Shawbrook is a challenger bank offering lending and savings services for commercial (real-estate and smaller companies) and retail (mortgage- and consumer-finance) customers. It is highly profitable, and its organic growth has been boosted by acquisitions in areas such as vehicle finance and smaller-company lending. Its Common Equity Tier 1 ratio (a gauge of a bank’s core capital adequacy) hovers around a comfortable 13% (3% is the minimum requirement).

The balance sheet and loan book have more than doubled in the last five years to £20 billion and £17 billion respectively. As is true of most challenger or specialist lenders, underwriting at Shawbrook is often manual, reflected in robust net-interest margins of 400 basis points, and a moderate cost of risk of 40 basis points.

The funding side is driven by retail savings, mostly fixed-rate and term, and 90% of the £16.7bn of retail-savings deposits are small enough to be insured by the Financial Services Compensation Scheme. The bank’s lack of coverage by equity analysts and infrequent smaller bond deals means it is often overlooked.

Consider also Stonegate 10.75% 2029. The firm operates a network of pubs, clubs and bars. It is a large player in a fragmented market with a market share of 10%; a supportive sponsor, as demonstrated by its last £250 million equity injection; good asset coverage, with £3.2 billion of real estate; and an improved financial profile. Although Stonegate still faces headwinds and the environment remains volatile, the company is advancing on its initiatives to optimise its assets through the conversion of pubs, disposals, and reducing the number of late-night venues.

There is also a focus on bolstering its appeal to customers, price increases with limited volume elasticity, and cost control. All these factors should lead to an improved free cash-flow profile. The group has no near-term maturities, while liquidity remains adequate. We believe that at 10.75% the bonds remain attractive.

Frontline (NYSE: FRO), the largest equity holding, is a world-leading shipping group transporting crude oil and refined products with a modern, energy-efficient fleet of tankers. Frontline is a beneficiary of sanctions against Russia and Indian refiners shifting some of their imports into the compliant market.

Should the war in Ukraine end, any exports of Russian crude would need compliant, insurable ships rather than the uninsured dark fleet currently used. We are also seeing a major increase in exports from West Africa to Asia, a highly profitable route for shippers. The high payout ratio makes this stock attractive for income investors.

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Income has historically been one of the best-performing investment strategies. The average annualised return of dividend-paying stocks in the S&P 500 between 1973 and 2024 was 9.2%, compared with 4.3% for non-dividend-paying stocks, according to a study by Ned Davis Research. What’s more, dividend payers were less volatile and offered more protection during market downturns. In 2022, when the S&P 500 declined by more than 18%, dividend-paying stocks in the index fell by 11.1%, while non-dividend payers experienced a 38.7% loss. In the global financial crisis of 2007-2009, S&P 500 earnings per share plummeted by 92% while dividends fell by only 6%.

A wealth of other studies come to a similar conclusion. One explanation for this is superior financial health. Companies with the best dividend records tend to have robust balance sheets, strong profit margins and substantial economies of scale, as well as competitive advantages. Cash that isn’t distributed is reinvested, used to reduce debt or spent on buying back stock.

Avoid the income trap

However, investors need to be careful what lessons they take from this. Companies outperform not because they pay a dividend, but because they are financially responsible enough to maintain that dividend. Do not confuse yield with value or quality. A company that offers a high dividend yield is not necessarily cheap or a good business. In fact, the very highest-yielding stocks often underperform the market over time – their dividends are high because they are unsustainable. Some research suggests splitting the market into five groups by yield and focusing on the second-highest yielding group instead.

Income investors and fund managers chasing yield often fall into these kinds of traps. Active fund managers with an income mandate are particularly vulnerable, since they must keep pace with the rest of the industry.

The FTSE 100 currently yields roughly 4%, and many UK equity income managers will use this as a benchmark for their portfolio. That means they could be forced to deploy capital in stocks that are not necessarily of the best quality but offer the highest yields, in order to maintain the yield from their fund.

Balance income and growth

Instead of relying solely on the dividend yield, investors should consider funds that take into account the total shareholder return, also known as the total shareholder yield. Companies that return cash to shareholders through other methods – such as stock buybacks or debt repayment – have more flexibility than firms trying to chase fixed dividend targets.

Management can switch off buybacks at any point, and often pause paying down many types of debt if they wish. Reneging on dividend expectations is significantly more risky. There’s a lengthy list of CEOs who have had to step down after U-turning on a dividend commitment.

Investors should also look at growth. Dividends are powerful, but a company’s earnings growth ultimately dictates how much cash it can return to investors. A fund that focuses on growth rather than income could generate better long-term returns.

You can still draw a regular income from a fund that achieves strong capital gains by selling, say, 4% of your holding every year. Since the top rate of capital gains tax is currently 28%, compared with 39.4% for dividends, there may be a tax benefit to this approach as well, if your fund is held outside a tax wrapper such as an individual savings account (ISA).

JPMorgan Global Growth and Income (LSE: JGGI) is one such fund we like. Passive investors might look at an exchange-traded fund (ETF) such as Fidelity Global Quality Income ETF (LSE: FGQD).

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Dividend stocks are some of the most popular investments in the UK, particularly among those looking for regular income or liquidity in their portfolio. However, dividend growth has been slowing recently.

UK companies paid out £14 billion in dividends in the first quarter of 2025, a 4.6% drop compared to the same period a year ago. Reduced special dividends, often known as extra dividends, and cuts from three companies lowered the total. These included Vodafone, Burberry and Bellway Homes.

Despite this, the latest figures from stock transfer company Computershare paint a more positive picture than expected.

Underlying dividend growth, which excludes special dividends, only fell by 0.2%. This figure was 2.7 percentage points better than forecast. Computershare also pointed to “encouraging growth” from sectors like healthcare, food, industrials and leisure.

Healthcare companies were some of the biggest dividend payers in the first quarter, with pharmaceutical giants AstraZeneca and GlaxoSmithKline increasing their dividends by 6.6% and 7.1% respectively.

The largest negative contribution came from the telecoms sector, driven by Vodafone’s decision to halve its payment. Bellway’s reduction also brought housebuilders lower after it cut its total dividend from £1.40 to £0.54 last year, with investors receiving the final payment at the start of the first quarter.

Going forward, we could see company profits take a hit as a result of the trade disruption caused by US president Donald Trump. However, the UK market could be more sheltered than others given Trump hasn’t singled it out as a target for higher tariffs.

“Dividends are typically less likely than company profits to experience short-term fluctuations either during economic turbulence or in boom times, as most companies seek to deliver steady income growth over time for their investors,” said Mark Cleland, chief executive of issuer services at Computershare.

“Nevertheless, any cooling driven by the current upheaval in financial markets and the real global economy is likely to affect profits and this will subsequently [influence] dividend payouts.”

In terms of the timing, any effects are more likely to appear in several quarters’ time, as dividends are a lagging indicator. Cleland says that discretionary special dividends have proved “more vulnerable” in challenging economic periods historically.

Which sectors showed the highest dividend growth?

Airlines, leisure and travel showed strong dividend growth in the first quarter, with total dividends up 75.3% year-on-year. EasyJet was an important driver. The airline increased its total dividend from 4.5 pence per share to 12.1 pence, after announcing a 34% jump in profits in 2024.

General financials, property companies and healthcare and pharmaceuticals also saw good growth.

In cash terms, healthcare and pharmaceutical companies were the largest contributors, returning £3.2 billion to shareholders in dividends overall. Total payouts were up 7.6% year-on-year.

Oil, gas and energy companies came in second, returning £2.7 billion, but this translated into a headline growth rate of -1.9%. Computershare said lower oil dividends largely reflected reduced share counts, as a result of large share buyback programmes.

Share buybacks are another method companies use to return cash to shareholders, so it is worth considering them alongside dividend payments. Between them, Shell and BP spent £19 billion repurchasing their shares in 2024.

Share buyback activity has increased significantly in the UK market since the pandemic, with total buybacks hitting £63.2 billion in 2024. FTSE 100 companies have already announced buybacks worth £30.9 billion in 2025, according to investment platform AJ Bell.

Top companies for dividends

The top five payers in cash terms were AstraZeneca, Shell, British American Tobacco, BP and Unilever. Together, they paid out £7.5 million, which represented 54% of total UK payouts in the first quarter, according to Computershare.

The top 15 payers were responsible for 83% of the total, pointing to some concentration risk. This may add to investor concerns in light of the challenging macroeconomic backdrop. However, experts believe there is reason to be optimistic when it comes to the UK market.

“It’s important to remember that UK companies are in a healthy position with strong balance sheets, while ordinary dividends are well covered by profits – much more so than at the start of the Covid pandemic,” said David Smith, portfolio manager at Henderson High Income Trust.

Smith believes ordinary dividends will be resilient going forward, and is “encouraged” by the typical (or median) growth rate of 3.3%, highlighted in the Computershare report. This is in line with his expectations for underlying dividend growth this year.

Special dividends and share buybacks are more likely to be pared back by companies looking to preserve cash flows.

Should income investors buy UK equities?

The UK market is expected to pay out £90.1 billion in total dividends this year, the same as in 2024. A stronger pound is likely to act as a headwind, reducing the sterling value of dividends declared in dollars.

Despite this, UK equities could still prove attractive to income-hungry investors. They are expected to yield 3.7% over the next 12 months, according to Computershare. For comparison, 10-year gilts are yielding 4.5% at the time of writing.

Gilts are less volatile than the stock market, but equities offer greater opportunities for capital growth. This means they are generally better placed to outpace inflation over the long term. Inflation is expected to hit 3.75% later this year.

It is also worth noting that the total cash yield on UK equities is far higher when share buybacks are taken into consideration.

FTSE 100 companies are expected to pay out £83 billion in 2025, according to consensus estimates shared by AJ Bell. Total buybacks worth £30.9 billion have been announced to date. This takes the FTSE 100 to a total “cash yield” of 5.2% – far more attractive.

The FTSE 100 has significantly outperformed its US counterpart so far this year, up 2.9% as of market close on 24 April. The S&P 500 is down almost 7% over this period.

Twenty investment trusts have increased their dividend payment every year for two decades, according to the Association of Investment Companies (AIC). Ten of these so-called “dividend heroes” have gone a step further, stretching this track record to half a century or more.

Topping the list of these reliable income-paying investment trusts are the City of London investment trust (LON:CTY), the Bankers Investment Trust (LON:BNKR) and Alliance Witan (LON:ALW). All three have increased their dividends for 59 consecutive years.

Last year, Murray International Trust (LON:MYI) became the newest dividend hero, and it has retained its place in the list as it was able to increase its dividend payout in the most recent financial year.

Two of the trusts on the list – Caledonia (LON:CLDN) and Scottish Mortgage (LON:SMT) – are also constituents in MoneyWeek’s investment trust portfolio, a model we set up over a decade ago to help readers build a global, long-term, “all-weather” set of investments.

“Dividends serve a dual purpose for us,” said Richard Clode, co-manager of the Bankers Investment Trust. “They are an important component of the attractive long-term total returns we aim to deliver to shareholders in combination with capital growth.

“Dividends also provide capital discipline to the companies we invest in as well as to how we invest as we seek out companies that can generate long-term profit and cash flow growth,” Clode added.

Investment trusts have a unique structure which allows them to hold back up to 15% of their income each year in a dividend reserve. This can then be used in years when companies pay lower dividends than expected.

This feature can make trusts particularly attractive to income-focused investors. In periods like the coronavirus pandemic, when swathes of companies cut or paused their dividends, trusts were able to fall back on these reserves to deliver a smooth income stream.

Dividend heroes: which investment trusts have increased payouts for 20 years or more?

The full list of the 20 dividend heroes is below:

^{Source: theaic.co.uk / Morningstar. Data at 12/03/26. * Dividend rise announced on 16/3/2026}

Top dividend heroes in focus: three investment trusts that have increased dividends for nearly 60 years

The three trusts at the top of the list have increased the dividend income they generate for investors for 59 years, consistently raising payouts even through market upheavals like the inflationary 1970s, the dot-com bubble in the late 1990s, the global financial crisis of 2008 and the Covid pandemic.

City of London invests in companies listed on the London stock exchange; top holdings as of 28 February include HSBC (LON:HSBA), Shell (LON:SHEL) and British American Tobacco (LON:BATS). Of the three investment trusts that have increased their dividends for 59 consecutive years, City of London has the highest dividend yield, at 3.91%.

Bankers has a global focus, and aims to capture the best 100 stock ideas at any given time. Its largest holdings reflect a tilt towards big tech stocks, with Nvidia (NASDAQ:NVDA), Amazon (NASDAQ:AMZN) and Taiwan Semiconductor Manufacturing (NYSE:TSM) its three largest holdings as of 28 February.

Alliance Witan also invests globally, with a focus on long-term capital growth and, of course, rising dividend payments. Its top holdings, as of the end of February, are Microsoft (NASDAQ:MSFT), Alphabet (NASDAQ:GOOGL) and Amazon.

Analysts have tempered their dividend expectations slightly and now expect the FTSE 100 to pay out £78.5 billion in 2024 as a whole, according to AJ Bell’s dividend dashboard. At the start of this year, they were forecasting £79.7 billion.

While this figure isn’t too far short of 2018’s all-time high of £85.2 billion, it also means the FTSE 100 will have delivered almost no dividend growth this year compared to 2023.

UK equities could still be worth a look for income-focused investors, though.

The FTSE 100 is currently offering a dividend yield of around 3.6%. This doesn’t sound great when you consider cash savings accounts currently pay up to 4.85% – and with no investment risk.

However, this dividend yield doesn’t take other forms of cash return into consideration – such as buyback activity and takeover moves.

When these other forms of cash return are included, the FTSE 100 yields 6.5% overall.

By casting their gaze wider to include mid-cap companies as well (tracking the FTSE 350, for example), investors could potentially bolster their yield further. The FTSE 350 offers a total cash yield of 8.3%. Again, this includes buybacks and takeovers as well as dividends.

Russ Mould, investment director at AJ Bell, points out that this compares favourably to the Bank of England base rate, 10-year government bond yields and the headline rate of inflation. These are 4.75%, 4.6% and 2.6% respectively.

Of course, as well as income, equities also offer the potential for share price growth. The FTSE 100 is up around 5% year-to-date at the time of writing, but has underperformed its US and global counterparts.

UK dividend outlook for 2025

Analysts currently expect the FTSE 100 to pay out £83.6 billion in dividends in 2025, a 6.5% increase compared to 2024.

Total pre-tax income (an important indicator of a company’s financial health and ability to pay dividends) is also expected to reach £248.8 billion, according to AJ Bell.

This figure would constitute a new peak, although Mould points out that the forecast has slipped in the past three months, mainly due to weakness in oil and metal prices. This has had a knock-on effect on oil and mining companies.

Investors should also be wary of concentration risk. Just 10 companies are expected to pay out 54% of total FTSE 100 dividends in 2024. The top 20 are expected to pay 71%.

Commenting on the broader outlook and how it could translate into investor flows, Mould says: “It may be that stronger global economic growth and upgrades to earnings and dividend forecasts are required before the UK really catches investors’ imagination once more, despite its potential yield appeal.

“That appeal rests primarily on its forecast forward yield of 3.6% for 2024 and 3.9% for 2025, based on ordinary dividend payments, with £3.3 billion in special dividends on top from HSBC, Associated British Foods and Berkeley.

“Further cash returns come in the shape of share buybacks, which are nearing prior-peak levels, and takeover activity, with almost 50 UK-listed firms on the receiving end of a closed or live approach.”

Should you buy UK equities?

The domestic market offers strong income opportunities, but an important question for investors is whether they want to opt for this or buy into a market with greater growth potential.

For context, the FTSE 100 has delivered an annualised return of just over 6% over a five-year period. Meanwhile, the MSCI World has delivered 13% and the S&P 500 has delivered almost 16%.

Proponents of UK equities say they are undervalued, making them cheap compared to their global and US counterparts. To benefit from this and reap outsized share price returns, though, there would need to be a catalyst for a re-rating.

“The million-pound question is when will the market re-rate?,” say Ben Russon and Richard Bullas, co-heads of UK equities at investment firm Martin Currie. “That we cannot predict. What we do know is that the UK stock market offers incredible value; those who are invested when it finally re-rates could be richly rewarded.”

The good news is that investors are at least being paid for their patience, enjoying a decent overall cash yield in the meantime.

British investors love their dividend payments, but the best payout growth of late hasn’t come from the FTSE 100, says Julian Hofmann in the Investors’ Chronicle. Data from Octopus Investments shows that total cash dividends paid by FTSE 100 companies are still almost 12% below 2019 levels (Covid triggered large cuts in UK dividends in 2020).

By contrast, ex-FTSE 100 firms are on course to pay out 9.2% more than pre-Covid levels. Aim is “the standout performer”, notching up an almost 45% payout rise. Income investors often perceive the FTSE 100 as more dependable than small caps, but the top-10 FTSE payers account for 56% of total dividends, leaving income reliant on the fortunes of a small cluster of firms.

Payouts are at least on a firmer footing than in the past, says Russ Mould of AJ Bell. Between 2014 and 2020, FTSE 100 earnings cover (profit divided by dividend payouts) “never once covered payouts by a factor of two or more”. Cover now stands at 2.07. FTSE 100 dividends are forecast to reach an aggregate £78.6 billion this year and £83.9 billion in 2025, still short of 2018’s record of £85.2 billion.

FTSE 100 firms have also announced £49.9 billion in share buybacks this year, close to last year’s level. Globally, dividend payouts hit a record $606.1 billion in the second quarter, according to the Janus Henderson Global Dividend index. Banks have been enjoying “strong margins and limited credit impairments”, enabling them to pay generous dividends, says Jane Shoemake of Janus Henderson.

Tech firms and dividends

Meanwhile, technology firms are increasingly shifting from growth to income mode, with Meta, Alphabet and Alibaba the new kids on the dividend block. For income investors, that is “a really positive signal that will boost global dividend growth by 1.1% this year".

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Interest rate cuts aren’t always a cause for celebration if you are an investor. While rate cuts ease pressure on individuals and businesses by lowering borrowing costs, they can also signal that the health of the economy is declining.

For the past three years, investors and economists have been speculating about the likelihood of a “soft landing”. Would central banks be able to raise rates just enough to tackle inflation, before lowering them in time to prevent a recession?

For a while, the picture looked positive. Economies proved surprisingly resilient in the face of higher rates and stock market performance looked good. After a rough year in 2022, the S&P 500 delivered back-to-back returns of more than 20% in 2023 and 2024. Global equities weren’t too far behind.

Despite this, the picture has become more complex in recent weeks. US president Donald Trump has spooked businesses, households and investors with his erratic tariff regime which threatens to push inflation higher and dampen economic growth.

While interest rates remain an important consideration for investors as they construct their portfolios, it is impossible to take advantage of the shifting interest rate environment without first considering the latest geopolitical developments.

Firstly, geopolitical developments will influence the speed and extent of rate cuts. Secondly, they will influence what's behind them. In other words, are central bankers cutting rates because inflation has come under control or because growth has become a concern?

These considerations will shape whether investors are bullish or defensive in their approach.

1. Gold

The current interest rate environment could make gold attractive. The gold price tends to rise when interest rates are cut, as gold (which pays no interest) becomes more attractive on a relative basis as the yield on cash falls. The gold price has continued to hit new highs so far this year and is up around 11% year-to-date.

Beyond interest rate considerations, gold bugs will tell you that the yellow metal is always a good thing to have in your portfolio. It holds its value well, meaning it can act as a hedge against inflation. It also has a low correlation with equity markets, which means it offers good diversification potential.

Demand for the asset remains strong, and safe-haven buying could propel it even higher going forward. Physically-backed gold ETFs saw significant inflows in February totalling $9.4 billion, the strongest since March 2022, according to the World Gold Council.

“Recently, Trump's tariffs have increased uncertainty and market volatility, which supports the likelihood of gold being viewed as a safe-haven asset. These factors have traditionally driven investors toward gold as a reliable investment during unstable times,” said Rick Kanda, managing director of The Gold Bullion Company.

See MoneyWeek’s round-up of the best gold ETFs.

2. Bonds

Bond prices tend to rise when interest rates fall, as the coupons on existing bonds start to look more attractive than those on new issues. With further interest rate cuts expected over the course of 2025, the asset class could be worth a look. Yields are still high, meaning a decent level of income is on offer too.

When weighing up which sorts of bonds (or bond funds) to include in your portfolio, there are a range of considerations – from credit quality to duration. As recessionary risks ramp up, investors might want to opt for more creditworthy parts of the market. This could include developed market government bonds or high-quality investment-grade corporate bonds, where the risk of defaults is minimal.

Another reason for opting for more creditworthy bonds in today’s environment is that credit spreads (the premium investors get paid for taking on more credit risk) are currently quite tight. In other words, investors are not being compensated that well for buying riskier bonds.

When it comes to duration, some might make the case for investing in bonds with longer maturities to “lock in” higher interest rates for longer. However, with inflationary pressures heating up again, this approach could come with risks.

“Although longer-dated bonds have high yields which can be locked in, the market volatility of these bonds can result in significant swings in value,” said George Martin, senior fixed income analyst at wealth management firm Charles Stanley. For this reason, he favours shorter duration bonds around the two-to-three-year level.

The longer a bond’s duration, the more sensitive it is to changes in inflation expectations. “Longer-dated bonds therefore carry a higher level of risk, and in a world where inflation doesn’t get back to the central bank's 2% target, investors could see losses, despite the bonds having a high yield on paper,” Martin added.

3. UK dividend stocks

Although bond prices will rise as interest rates fall, the level of income on offer in the bond market will start to come down. The same is true for cash yields. We have already seen a barrage of interest rate cuts in the savings market over the past year. As this takes place, investors who are reliant on income may need to consider increasing their allocation to dividend-paying equities.

The UK market is a fertile ground for dividend stocks. Currently, the FTSE 100 is offering a 12-month forward dividend yield of 3.8%, based on Factset data. The FTSE 350 is slightly higher at 3.9%. This is not too far behind 10-year government bonds, which are yielding 4.7% at the time of writing. Share buyback activity has also risen in the domestic market in recent years, meaning the real cash return investors are getting is higher than the dividend yield would suggest.

“Thus far in 2025, the UK equity market has offered more dividend increases than it has cuts, more share buyback announcements in value terms than at the same stage in 2024, and more positive surprises than negative ones,” said Russ Mould, investment director at platform AJ Bell. “This is all despite what appears to be, on the surface, a gloomy macroeconomic backdrop and a tense geopolitical one.”

If the domestic market continues the year as it started, with strong share price performance, you could also benefit from capital growth. Stock markets around the world have taken a hit in recent days, but the FTSE 100 is still up around 3% year to date. This compares favourably to the S&P 500, which is down almost 5% over the same period.

Alternatively, if the market takes a downturn, dividend stocks could prove a defensive play. The ability to regularly pay a consistent (or rising) dividend to shareholders is often a sign that a company has good financial discipline.

4. If you are more bullish on the growth outlook… small caps

Those who are more optimistic about the economic outlook might want to focus on less defensive areas of the market. For example, if you think recessionary fears are overblown, small cap stocks could be worth a look.

Smaller businesses typically suffer during periods of high inflation and interest rates. It can be more difficult for them to swallow price increases and they are often more leveraged (and more exposed to floating-rate debt) than their larger counterparts. As inflation comes under control and interest rates fall, they can rally.

Research from global investment company Aberdeen, published earlier this month, suggests UK small caps offer particular opportunities, trading at a discount of more than 24% compared to their 10-year average.

That said, it is worth pointing out that they could take a hit from the increased labour costs coming in from April. “Smaller firms may find it harder to adjust to the increased costs brought by the [higher] minimum wage and higher national insurance contributions,” Mould notes.

The term “dividend aristocrats” was coined to describe S&P 500 stocks that had increased their payout to shareholders each year for at least 25 years. Shareholders in such firms have great confidence that their companies can provide a secure and rising income. This steadily rising payout is a sign of strong financials and, usually, of lower share-price volatility. 

On the other hand, aristocrats may produce lower capital gains than growth stocks (which often pay no dividend). Investors also need to check that the company is not paying out too high a proportion of earnings as dividends, and thereby forgoing growth opportunities by reinvesting too little. In 2021 there were 65 dividend aristocrats in the S&P 500. 

Over the previous decade, those stocks had produced a total annual return of 14.3% compared with 14.2% for the index. There were 66 aristocrats in 2023 and 81% of these were from five sectors: industrials (24.1% of the total), consumer staples (22.8%), materials (12.5%), financials (11%) and healthcare (10.4%).

What are dividend super aristocrats?

While dividend aristocrats boast at least 25 years of continuous dividend growth, some of them have records of over 60 years. We define a dividend super aristocrat (DSA) as a company with at least 40 years of continuous dividend growth; it need not be a member of the S&P 500. 

Examples are Automatic Data Processing (ADP), Coca-Cola, Medtronic and Halma of the UK. ADP, one of the largest business-services outsourcers, has a record of 49 years of continuous dividend increases and a dividend yield of 2.3%. Medtronic, the world’s largest manufacturer of biomedical and implantable devices, has had 47 consecutive years of increases and has a dividend yield of 3.5%. This illustrates the point that DSAs with a modest yield, but a history of strong profitable growth may prove to be as good, or better, than DSAs with higher dividend yields but lower growth potential. 

In 2023, there were 67 dividend aristocrats in the S&P 500. 42 of these were DSAs – of which 10 had achieved between 60 and 68 years of dividend increases. A yield of 0.8% may seem low, but its shares have almost quintupled over the last 10 years, so those who bought a decade ago now have a yield of almost 3.8% on their original investment. 

To find stocks with a consistently rising income, choose from dividend aristocrats or DSAs since their long history of rising dividends gives confidence that they can continue their year-on-year increases. However, it is always worth carrying out some additional checks on aristocrats you are thinking of investing in, for income, to make sure they will be able to keep raising their payouts.

What to check for 'super aristocrats'

• The first key criterion is that the company should still be growing its revenue and profits.
• Second, check that there are no factors that could cause growth to cease or reverse. An example might be a tobacco company where health regulations may be tightened to make it more and more difficult to sell its products. 
• Third, the proportion of earnings per share (EPS) paid out as dividends – the payout ratio – should not be too large. 

A useful rule of thumb for companies (but not for investment trusts, where it is the payout ratio of the companies in their diversified portfolios that matters) is that the dividend per share (DPS) should be less than half of both EPS and cash flow per share. That ensures that dividends can still be paid and increased modestly even if EPS were to fall during a downturn. It also means that there is enough profit retained after paying dividends to invest in continuing growth. 

Medtronic is an example that breaks this rule since DPS for 2023-2024 was 100% of EPS. However, research and development (R&D) comprised 8.5% of sales, so EPS is calculated after deducting the R&D investment that drives future growth. In addition, the health sector is not cyclical, so Medtronic is unlikely to suffer a substantial downturn in revenue and profits, and has, of course, increased its dividend each year for 47 years. 

Another example is Johnson & Johnson, the pharmaceutical giant, which has raised its dividend for 62 years in a row, but has a DPS of 70.7% of EPS. Again, however, it invests very substantially in R&D (17.7% of sales).

8 dividend super aristocrats for dependable growth

We now give eight examples of potential DSA investments, each with 40-68 years of dividend increases and, in seven cases, yields between 2.3% and 3.4%. This range of yields is fairly safe, since with dividends being increased each year, the yield on an investor’s original investment will be climbing each year and will relatively soon exceed 5%, the highest available on easy-access savings accounts (which offer no capital growth). 

Four of the eight DSAs are US companies, one is a UK company and three are UK-listed investment trusts that are currently selling at a discount to the value of their underlying investments. 

1. Sysco Corporation (NYSE: SYY)
The first example is Sysco Corporation (NYSE: SYY), the $37 billion market cap global leader in wholesale food and food-equipment distribution to restaurants, hotels, healthcare and educational establishments. Sysco’s annual turnover is $76.4 billion and it boasts 53 years of dividend increases. 

The forward dividend yield is 2.8%, with a payout ratio of 48.8% and the forward price/earnings (p/e) ratio is 15.7. The recent share price is $75 and analysts see scope for the share price to reach $121 in the next five years. In May 2024, Sysco gave a financial outlook for the next three years that foresees sales growth of between 4% and 6% per year, adjusted EPS growth of 6%-8% per year and a total return to shareholders of 9%-11% per year. 

2. Genuine Parts (NYSE: GPC)
Our second example is Genuine Parts (NYSE: GPC), the $19.7 billion market-capitalisation company selling vehicle and industrial parts, electrical materials and business products in the US, Europe and Australasia. Its turnover is $23 billion and it boasts 68 years of annual dividend increases. 

The forward dividend yield is 2.82%, with a payout ratio of 42.7% and forward p/e of 14.3. The recent price is $144 and analysts’ five-year price target is $225. Full-year 2024 guidance given with the latest results confirmed sales growth of 3%-5%, but increased expected diluted adjusted EPS to $9.80-$9.95, from the previous estimate of $9.70-$9.90. 

3. Automatic Data Processing (Nasdaq: ADP)
The third example is Automatic Data Processing (Nasdaq: ADP), the world’s largest business-services outsourcer with a market value of $101 billion. Its turnover is $18 billion and it has had 49 years of dividend increases. The forward dividend yield is 2.3% with a payout ratio of 59% and forward p/e of 24.8. The recent price is $249, with a five-year price target of $399. ADP’s latest quarterly results showed revenue up by an annual 7% and EPS up 15%. 

4. Johnson & Johnson (NYSE: JNJ)
Our fourth US example is Johnson & Johnson (NYSE: JNJ), the $375 billion market-cap pharmaceutical company with a turnover of $85.2 billion. It has a record of 62 years of annual dividend increases and a forward dividend yield of 3.3%, with a payout ratio of 70.7% and forward p/e of 14.8. The high payout ratio is acceptable given the company’s substantial R&D investment (17.7% of sales) for growth and a long record of increasing dividends. The recent price is $156 and the five-year price target is $243. Full-year guidance given with the latest results is for sales growth of 5.5%-6% and adjusted diluted EPS growth of 6.6%-8.1%. 

5. Halma (LSE: HLMA)
Our fifth example is Halma (LSE: HLMA), the £10 billion market-cap FTSE-100 company with a range of products for safety, environmental analysis and health. Its turnover is £2 billion and it has an incredible record of 45 years of annual dividend increases, all of 5% or more. Its forward dividend yield is 0.8%, with a payout ratio of only 29% and forward p/e of 30. The full-year results released in June 2024 showed record profits for the 21st consecutive year, with sales and pre-tax profit both up by 10% and the dividend up by 7%. The shares have gained 16% in the past year.

The final three examples are UK-listed investment trusts – City of London Investment Trust (LSE: CTY), The Scottish American Investment Company (LSE: SAIN) and the Witan Investment Trust (LSE: WTAN), which is merging with Alliance Trust. They all have extensive portfolios of investments, providing corporate, but not necessarily geographical, diversification. 

6. City of London
City of London has a 58-year history of increasing dividends. About 85% of the fund is in UK shares, with the top-10 holdings including BAE Systems, Shell, HSBC and AstraZeneca. The forward yield is 4.7% and the trailing p/e 17.5. The fund sells at a discount of 0.6% to net asset value (NAV). The shares are up by 10.4% in a year, but 1.3% over five years. 

7. Scottish American
Scottish American has a 50-year record of increasing dividends, with 36% of the fund in North American equities and 35% in European ones. Top-10 holdings include Novo Nordisk and Microsoft and TSMC Taiwan Semiconductor Manufacturing Company (TSMC). The forward yield is 2.7% and the historic p/e 8.8. The trust sells at a discount to NAV of 8.2%. The shares have gained 24.3% in five years. 

8. Witan
Witan has a 50-year record of dividend increases, with 39% of the fund in North America and 42% in Europe. Top-20 holdings include Amazon, Unilever, Diageo, Microsoft, Nvidia, Nintendo and Alphabet. The forward yield is 2.2% and the trailing p/e 9.7. The trust sells at a discount of 5.2%. The shares are up 20.4% over one year and 22.4% over the last five.  

For investors requiring the highest immediate yields, together with the confidence that a record of over 50 years of consecutive dividend increases brings, City of London (with a yield of 4.7%, but a modest growth record) and Johnson & Johnson (yielding 3.3% and a five-year share-price target 56% above current levels) are probable choices. 

Sysco (with a yield of 2.8% and a target of 61% above today’s price), or Genuine Parts (2.82% and a target of 56% above) have yields of just under 3% and good growth prospects. Halma (yielding 0.8%) is a longer-term prospect with its excellent history of share price, profit and dividend growth.

This article was first published in MoneyWeek's magazine. Enjoy exclusive early access to news, opinion and analysis from our team of financial experts with a MoneyWeek subscription.

Beginning investing is a great money goal for a new year. If you already have an emergency fund of around three to six months of your expenses and are looking to work towards some medium term (five years or more) money ambitions, now could be the right time to start investing.

Of the approximately 17 million UK adults who planned to set a New Year’s resolution in 2026, financial wellbeing is a priority, with 31% aiming to start a savings habit or increase savings, according to a survey of 2,000 over 18s by Chase, a bank. This is the top resolution for Gen Z (30% of those aged 18-24) and Millennials (32% of those aged 35-44).

Notably, the research revealed a significant gender investment gap, with men far more likely than women to plan to start investing or invest more in 2026 (25% vs 10%).

Among higher earners (those with incomes over £55,000), the top priorities for 2026 included ramping up investments (31%). Those planning to invest more or start investing plan to allocate £272 per month, the Chase survey found.

For curious savers new to the world of investing, knowing the what, why and how of getting started can be the first hurdle. A good place to enter the investing world is to find the right investment platform for beginners.

Investment platforms, also known as fund supermarkets, let you choose from a range of investments, including funds, shares and bonds.

Some investment platforms are aimed at investors who have financial advisers and others cater for investors who are ‘self-directed’, or prepared to make the decisions on their own.

If you have a financial adviser, they will choose a platform for you. But self-directed “DIY” investors will find there are more than 30 investment platforms to choose from.

These firms all offer slightly different investment choices, product ranges, apps and investment costs. To help you make the choice, MoneyWeek picks eight to consider.

Kalpana Fitzpatrick, editor or MoneyWeek, said: “Investment platforms make it super easy to manage your investments, but it's important to pick the right one for your needs and goals as they are not all the same. For example, some platforms may have lower costs, but have limited funds or stock options, so you may not be able to invest in everything you want.”

If you’re still weighing up investing vs saving our article can help. Our beginners guide on how to invest is also a must-read.

Best investment platforms for beginners in the UK

1. Freetrade – Best for low costs and stock picking

Whether you are just starting out investing or are a seasoned pro, it is a very good idea to keep a tight grip on the fees you pay to play the stock market, including platform fees.

Analysts at Kepler Trust Intelligence give this example. If you invested £50,000 in assets growing at 10% a year, your portfolio would be worth around £336,000 after 20 years with a zero-platform fee provider. But pick a platform charging 0.45% a year and you’d end up with almost £30,000 less, purely due to fees eroding your returns over time.

Freetrade’s basic plan has no platform fee, so you are straight away making a saving. The fintech’s no-fee trading model also means beginners can invest across 6,500+ UK, US and European stocks and exchanged traded funds (ETFs) without worrying about losing money to commissions. This makes Freetrade a particularly compelling option for newer investors who may want to maximise their returns from small amounts.​ Other platforms charge anywhere between around £4 and £12 per trade.

On Freetrade’s free basic account there is a foreign exchange (FX) fee of 0.99% on trades not made in pounds sterling, and you get 1% interest on up to £1,000 of uninvested cash. The FX fee reduces, and the interest rate rises, if you plump for one of the paid accounts.

Freetrade has recently made its offer even more attractive by including the ability to also invest in funds and gilts via all of its accounts -- ISA, general investment accounts, and self-invested personal pensions -- in its free basic package. Previously this was only available on the paid packages.

Freetrade’s ISA is what’s known as flexible, meaning you can withdraw and replace money during the tax year without impacting your annual ISA allowance, currently £20,000.

2. J.P Morgan Personal Investing – Best for transparent performance data

You’ve probably heard of American bank and investment company J.P. Morgan. But you may not be aware that J.P. Morgan Personal Investing is the new name for the British online wealth firm Nutmeg, as of November 2025, following an acquisition in 2021.

J.P Morgan has brought across many of the key features beginner investors liked about Nutmeg. Most notably that fact it is open about how its investments perform over time. You can easily see on its website how its fully managed portfolios have done over the past decade and see how the results compare to competitors. (Though remember, past performance doesn’t guarantee future performance).

For example, J.P. Morgan Personal Investing’s 5/10 risk level fully managed portfolio – which would often be termed ‘balanced’ and might be a typical choice for a new investor – has returned 50.7% over 10 years, compared with 53.5% on average for comparable funds. Not, that flattering, in this case, but honest.

J.P. Morgan Personal Investing is also transparent about its fees, with an investing fee calculator that shows how much you’ll be charged depending on how much you invest, which is very easy to use and helpful for beginner investors trying to compare costs. To invest £10,000 in one of its fully managed funds, for example, would cost you 0.97% or £97 over the next 12 months.

3. Lightyear – Best for user-friendly experience

Lightyear is the new kid on the investing platform block. It was launched in the UK 2021, having been founded by former Wise employees, and is now operational in 22 European countries.

Lightyear is a low-cost, FCA-regulated investment app that aims to simplify global investing. It offers commission-free trading for US, UK and EU stocks and ETFs within a stocks and shares ISA, general investment account, and multi-currency accounts. Key features include 3.75% interest on cash, fractional shares, and no monthly account fees.

Review site Good Money Guide ranks it as one of its three best apps for beginner investors because it shuns complex tools and confusing jargon in favour of being intuitive, easy to use and for providing clear information and straightforward navigation.

One Lightyear user review which says – “I’m a super beginner investor and Lightyear has made it easy for me to invest. The app is easy-to-use and I understand what’s going on without having to go too much trouble” – is representative of many other similar reviews for the app.

Lightyear is also award-winning. It won Best Low-Cost ISA, Best for Share Traders and Best App at Boring Money’s Best Buy Awards in 2025.

4. Moneybox – Best for micro-investing

Moneybox is a good introduction to investing for those who want to start small and need a bit of a push to get going. Nudges in the form of ‘round ups’ mean everyday transactions you make are rounded up to the nearest pound and added to your savings. For example, if you spent £2.20, it would be rounded to £3, with 80p invested.

You choose your settings – including which type of investment account you want – and link your bank account to the app. Then you’re off. You can get started with just a £1 contribution and carry on contributing money via any combination of round-ups, one-off and weekly deposits, and a monthly payday boost.

Your savings are added up throughout the week. This total is collected every Wednesday at around midday, and then debited from your bank account early the following week (normally on Monday). By the end of the day on Monday, you’ll see your payment added to your chosen investment account balance.

Moneybox offers investors three ‘starting options’ – Cautious, Balanced and Adventurous. All you need to do is pick one based on your attitude to risk and return. Each starting option contains a mix of diversified tracker (mutual) funds. If you’d like to, you can customise the asset allocations of the suggested starting options to create a personalised portfolio. But make sure you fully understand how changing your allocation could impact your investment return and risk level before making any changes.

The Moneybox app is easy to navigate and simple to use. A downside is the platform fee of 0.45% (£45 on an investment of £10,000), which is more expensive than some competitors.

5. Bestinvest – Best for coaching support

Beginner investors – frankly all investors – can often benefit from a bit of guidance. Bestinvest has recongised this and moved, rather cleverly, to fill a gap in the market by making its financial experts available to new and existing customers, as well as investors who aren’t even customers.

For zero money Bestinvest provides investment coaching (worth up to a few hundred pounds if you sourced it separately) with its qualified financial planners to everyone. This makes it perfect for beginners who want some support while starting out.

When you book online you can select a time and date that works for you from the calendar. If you are a Bestinvest client there's no limit on the number of free coaching sessions you can book. But everyone can have at least one free 45-minute coaching session where your Bestinvest coach can talk to you about your investments and financial plans.

They won't talk about the suitability of individual investments, although they can always pass you to someone who can. As well as this hands-on guidance, Bestinvest provides educational content to help with investment research and executing trades. For a chat

The only downside is Bestinvest is quite expensive compared to other platforms. Bestinvest charges an investment platform fee of 0.5% per year on funds under management, capped at £125 per quarter, and typically £9.95 per trade. This is higher than other investment platform options on the market. There may also be extra fees for ISA accounts and some fund purchases.

6. eToro – Best for helping you learn from experienced investors

eToro is an easy-to-use investing app that could be one to consider for newer investors mainly because of its copy trading feature, which allows beginners to mimic the strategies of more seasoned, successful investors.

eToro's CopyTrader allows you to automatically mirror the trades of experienced ‘popular investors’ by allocating funds to copy them.

It works by replicating their portfolio's asset allocation, opening trades in your account at the same ratio as their own investments, and letting you manage risk with tools like Copy Stop Loss (CSL) to protect your capital. You find investors, set an investment amount (min $200) and CSL, then eToro handles the trade, letting you benefit from their strategies without manually trading.

In terms of cost, eToro doesn’t charge any fees for opening an account, nor does it have monthly maintenance fees. It also doesn’t charge a commission for most trades.

There are a bunch of other fees to watch out for though – like the $5 (around £4) withdrawal fee when you want to access your money, the currency conversion fee of around 0.5% for pounds sterling to US dollars (the base account currency), and, most punishing of all, the $10 (around £8) a month after 12 months with no login activity fee. So this is not an ‘invest and forget’ account.

7. AJ Bell Dodl – Best for simple options

Dodl is AJ Bell’s app for beginners, a sleeker version of its main investment platform, with eight ready-made investment portfolios, 29 themed investments and 75 popular UK and US shares. This leaner offering could be ideal for newer investors who don’t want to be dazzled by thousands of investment options.

Dodl sells itself as a ‘low-cost, little-effort investing app’ – and with charges an attractive 0.15%, less than the AJ Bell’s main investment platform, on portfolios under £40,000 it is hard to beat. It also payspay 4.06% variable interest on cash held in its investment ISA and investment lifetime ISAs, so you earn interest on cash in your account while you decide what to invest in. And you can ease into investing from as little as £25 a month with Dodl.

Most support is app-based or via online content, so those seeking in-person advice or more comprehensive coaching may prefer another platform with more hands-on guidance.​

8. Interactive Investor – Best for bigger sums

Interactive Investor has some perks for beginner investors – clear pricing, easy account setup, access to ISAs for tax-efficient investing and educational tools – but investors with smaller sums should beware they will be paying a high price.

The firm is best known for flat fees in pounds and pence and it has recently overhauled its charging structure. The below will be correct from 1 February 2026.

For investors with up to £100,000, its Core plan costs £5.99 a month and includes an ISA, Sipp and trading account. This means the plan can work out very expensive for smaller investors. An ISA investor with £1,000 would find themselves paying an effective annual fee of almost 6%. However, flat fees can offer good value for money for those with significant sums.

Once you go above £100,000, you move to the Plus plan, at £14.99 a month. The big advantage is these fees stay the same as your portfolio grows, making it great value for bigger portfolios. The platform does charge extra for trading (buying and selling) investments, but you can make free regular monthly investments.

How do investment platforms work?

Investment platforms are just a digital way of holding and accessing all of your investments online. You go onto your investment platform, often via a mobile app, to buy, sell and monitor your holdings, including shares, bonds and investment funds.

Typically an investment platform will allow you to hold your investments in their ISA and self-invested personal pension (Sipp) – which are both good options as any gains you make grow in them free of income tax or capital gains tax. There will also be a general investment account, but you’ll be taxed on your profits in that one.

There’s usually lots of educational content provided for free on investment platform websites that you can use to help guide your decisions about where to invest even before you sign up as a customer. So it’s perfectly possible to visit one platform to get some investment ideas, and then use another platform to buy and sell your chosen investments.

What to look for in an investment platform

Product and investment range

You should consider the product and investment range, alongside the cost of investing. Some people might feel a good app is essential. Others might focus on customer service rankings too. If that's you, then Trustpilot is a good place to check these out.

Tax wrappers

Although you might not need all the tax wrappers when you’re starting out, it could be important to have them available as you progress with your investments.

It’s important that an investing platform offers an ISA and SIPP wrapper. If you’re under 40, the Lifetime ISA may be important to you. Parents might want the option of Junior ISAs too.

Our stocks and shares ISA guide looks at tax-free benefits in more detail.

Type of investing platform

Platform suitability also depends on your level of confidence. Are you a “do it for me” customer, who would like guidance to make your choice? Or do you want to learn to do your investing by yourself?

Investing fees

Most investment platforms operate on a “percentage fees” charging model, where the platform charges a certain percentage of your investments held on the platform each year, usually broken down into monthly payments. A minority of platforms charge fixed fees, specified in pounds and pence. On top of this, there may be transaction charges for buying and selling certain investments.

Don’t underestimate the importance of charges. Even small differences in fees can make a big difference to the outcome over a 25-year investment career due to the compounding effect.

For example, imagine you invest a lump sum of £20,000 and plan to add £200 a month to this. If your platform charges 0.25%, over 25 years, with average investment growth of 6% a year, the fund would be worth £211,970 (per the financial education website CandidMoney.com). But with a platform that charges 0.45%, your fund would be worth £204,487. That’s a difference of £7,483.

On larger investment sums, the effect is magnified and could be the difference between you retiring in comfort or not.

Aim (formerly the Alternative Investment Market) is London’s market for small and medium-sized growth companies. It has a bit of a bad reputation among investors and it’s easy to understand why. Aim has greater regulatory flexibility compared to the main market, which is supposed to make it easier for companies to list and attract investor capital.

Unfortunately, this light-touch regulatory regime has been abused by bad actors over the years. As a result, Aim has developed a reputation for being a financial Wild West.

But while it’s true that there have been some notable disasters in recent years, there have also been some great success stories. The manufacturer of concrete laying laser-guided equipment, Somero Enterprises, Inc. (LSE: SOM), is a great example. Investors who were savvy enough to put £100 in this company ten years ago have seen the value of their holdings hit £3,500 today.

FTSE 100 companies are expected to return a total of £78.5 billion in 2023, compared to £76.1 billion in 2022. Aim will never be able to rival the blue-chip index for income (the aggregate market capitalisation of the index is only around £80bn), but that doesn’t mean investors should ignore what the index has to offer.

With that in mind, here are the highest yields in the Aim All-Share index (excluding stocks with a market capitalisation of below £20m at the time of writing): 

Figures based on Refinitiv analyst estimates

The list contains a broad mix of companies from different sectors, growth prospects and valuations. 

Investor sentiment towards investment and financial services companies has deteriorated amid market volatility. As a result, many companies in the sector have seen their share prices slump and dividend yields. This is not just limited to Aim, it’s happening across the market, including blue-chip FTSE 100 companies.

This price action seems to reflect the view that these asset managers will struggle in volatile markets, and may continue to lose assets to passive fund providers. For those reasons, I’m a bit sceptical about their ability to hit dividend targets.

Real Estate Investors owns a portfolio of commercial properties and is structured as a real estate investment trust (REIT). Under REIT structure rules, the company has to return most of its property rental income to investors, which is the main reason why its yield is high.

Management is trying to close this gap by selling assets and paying down debt, and it has also hinted at special dividends to return additional capital. On that basis, I think Real Estate Investors’ dividend has strong foundations.

See also:

How to find the best stocks with dividends

Five dividend stocks to beat inflation

The ten highest dividend yields in the FTSE 100

The ten highest dividend yields in the FTSE 250

The ten investment trusts with the highest dividend yields

Is a bird in the hand really worth two in the bush? In the income sector, the choice is between a high income now, but little, if any, growth and moderate income with steady growth. In the former camp is the Merchants Trust (LSE: MRCH), the best-performing UK income trust over one year and second best over three and five. In the latter camp are the Troy trusts, Troy Income & Growth (LSE: TIGT) and Securities Trust of Scotland (LSE: STS), whose management Troy took over in September 2020.

The theory is straightforward: a portfolio that yields 2.5% with income growing at 10% per annum will yield 5% on cost after seven years. A portfolio that yields 5% is likely to have far less growth because its companies will have less to invest without borrowing. After seven years, it might still yield 5% on cost and is likely to have generated little capital return. The second portfolio will have generated a third less income, but should have doubled in value.

Merchants Trust has defied the theory, returning 14% over one year, 32% over three years and 43% over five compared with FTSE All-Share returns of 9%, 15% and 26% respectively. The shares trade at a tiny premium to net asset value, so the historic dividend yield of 4.8% reflects the portfolio yield and is nearly all covered by earnings. Low costs (just 0.55% of net assets) have helped, as have borrowings equivalent to 12% of net assets, but the dividend has been far from static, having been increased annually for 40 years.

The portfolio has 50 holdings, of which 58% is in the FTSE 100 index, 29% is in the FTSE 250, 5% in small caps and 8% in overseas holdings or cash. The largest holding at 5% is GSK, while 4.1% each is held in the tobacco stocks BAT and Imperial Brands, although Imperial’s yield of 8.3% looks unsustainable despite a 33% dividend cut in 2020. Shell (3.9%) has been in the government’s firing line while Drax and Scottish & Southern (3.3% each) may have escaped the windfall tax. BAE Systems had 24 years of plodding performance until the share price jumped 30% on news of the Russian invasion of Ukraine.

Starting to turn around

Troy Income & Growth may have a lower yield of just 2.6%, but its total return – 5% over one year, 8% over three and 17% over five – has failed to compensate as one would have hoped.

However, Securities Trust of Scotland has made a good start under Troy’s management, returning 17% in the year to 30 April, 11% ahead of the MSCI World index. Its shares yield 2.4% and trade at a small premium to net asset value. Borrowings are 6% of net assets. The 33-stock portfolio has 30% invested in the UK, including four of the top ten. The largest of these is British American Tobacco – like Merchants Trust, it is keen on the tobacco sector. However, US-listed Philip Morris (5.4%), its second-biggest holding, is less financially challenged than Imperial. Other UK stocks include Diageo, Reckitt Benckiser, Unilever and Relx. North America is 54% of the portfolio, Europe 11% and just 2% in Japan (Nintendo).

James Harries, the trust’s manager, emphasises the importance of “investing in exceptional, resilient companies that grow the dividend, backed by genuinely surplus cash flow”. He concentrates the portfolio on favoured sectors, such as consumer goods, healthcare and business software, while avoiding those that are “structurally disrupted”, such as retailers, telecoms and life insurance – areas that many investors would traditionally have gone to for income. “We also view mining, energy, and aerospace and defence as unattractive, despite their being currently favoured by investors,” he says. “These areas are capital intensive, cyclical or both. Resource companies are dependent on a commodity price over which they have very little control and defence stocks are in the arms of government. Long-term returns on capital employed are low and volatile.”

There is a third way, followed by JPM Global Growth & Income (LSE: JGGI). It invests to maximise total returns, paying most of its 3.3% yield out of capital. This has produced index-beating returns of 60% over three years and 77% over five, and so it also trades at a small premium to net asset value. However, many income investors will be unhappy about dividends being paid out of capital.

Despite its strong record, Merchant Trust's portfolio does not inspire confidence, nor does its UK focus. The portfolio may change, but a radical shift looks unlikely. JPM Global Growth & Income still looks attractive, while Securities Trust of Scotland’s long sojourn in the wilderness appears to be over.

SEE ALSO:

How to find the best stocks with dividends

Five dividend stocks to beat inflation

The ten investment trusts with the highest dividend yields

Dividend investing fell out of fashion during the growth stock boom of recent years. It’s not too much of an exaggeration to say that investors didn’t want to hear about companies who couldn’t think of anything better to do with their money than to give it back to shareholders. With interest rates at ultra-low levels and inflation near zero, investors wanted to see growth rather than cash returns.

But that’s changed since inflation became a major worry. Suddenly the idea of receiving a regular and sometimes even inflation-beating payout from the stocks you own has become much more appealing. So if you’re looking to boost the income portion of your portfolio, what should you be looking out for?

Digging for dividends

The good news is that there’s no shortage of appealing-looking dividends out there. The likes of both mining giant Rio Tinto and housebuilder Persimmon offer double-digit yields right now while many other stocks have payouts in the high single-digits.

The bad news is that there’s more to dividend investing than looking down a list of the highest-yielding stocks in the FTSE 100 and picking the top ten. A high yield is often a warning sign – markets don’t like to hand out free money, and if a yield is much higher than the market average, it often signifies scepticism about a company’s ability to pay it. So make sure that the level of dividend cover (see below) is reasonable compared to the sector average.

On that score, perhaps the most important point of all is to diversify. Make sure that your dividend-paying stocks are selected from a range of different industries. For example, chances are that if one housebuilder has to cut its dividends, its peers will come under similar pressures. So don’t look to get all your income from one source.

If you’d rather have someone else build your income portfolio for you, one sensible option is to look at investment trusts. In the year to March, trusts paid out £5.5bn in dividends according to fund administrator, Link. That’s the highest amount since Link started tracking the data in 2010.

Just be aware that much of this came from trusts investing in “alternative assets” and that equity income trusts are expected to grow their payouts more slowly than corporate dividends this year, as they “rebuild” reserves that were depleted by maintaining dividends during the pandemic. Law Debenture (LSE: LWDB) is one equity income trust which we hold in the MoneyWeek model portfolio. It currently yields about 3.7%.

For more on picking dividend stocks, see my colleague Rupert Hargreaves’ article online How to find the best stocks with dividends

What is dividend cover?

Companies pay dividends to shareholders out of their profits. A dividend is entirely discretionary – unlike the interest payment on a bond, it doesn’t have to be paid and it can be cut or even scrapped altogether if deemed necessary. Directors decide what proportion of profits they will distribute: the amount varies depending on how well the company has done (ie, on how much the directors feel it can afford to pay out), but also on other, less tangible factors.

For example, directors tend not to be keen on cutting dividends because the market reaction is typically bad. Also, fast-growing firms tend to pay out a lower percentage of their profits than more mature firms, because they prefer to invest all or most of their profits in opportunities for future growth.

If a company’s dividend yield (the dividend per share expressed as a percentage of the share price) looks particularly high, then that can be a warning sign. For example, if a company is paying a dividend of 10p a share, and the share-price is £1, that’s a yield of 10%. If the average for the index is much lower than that, then it suggests investors are highly sceptical that the dividend will end up being paid.

So when assessing the financial health of a company, it’s worth looking at dividend cover as a guide of how likely it is that the dividend will remain stable or rise in the future. Dividend cover simply measures how many times over the dividend payout is covered by the profits available to pay for it.

To take a very simple example: a firm that makes £20m in profit and allocates £2m for dividends has a cover of ten, while a firm that makes £50m but pays out £25m in dividends has a cover of two. The higher the dividend cover is, the more sustainable the payout. The “payout ratio” is simply the inverse of the dividend cover ratio – so in this example, the first company has a payout ratio of 10%, while the second is on 50%.

SEE ALSO:

Five dividend stocks to beat inflation

The ten highest dividend yields in the FTSE 100

The ten highest dividend yields in the FTSE 250

The ten highest dividend yields on Aim

The ten investment trusts with the highest dividend yields

Research shows that stocks with dividends tend to outperform the market over the long run, especially in periods of macroeconomic turbulence.

According to a study conducted by US-based asset manager Hartford Funds, between 1930 and 2019, dividends contributed 42% of the S&P 500’s total return between 1930 and 2019 – that’s roughly 1.8% a year on an annualised basis (I’m using the widely-followed US large-cap barometer here, as it reflects a much broader selection of global stocks compared to the UK’s market indices).

The headline figure masks more varied underlying returns. For example, during the 1940s, ’60s and ’70s, Hartford’s research showed that dividends contributed as much as 73% to the total return achieved on equities.

However, another study, this time performed by US-based asset management firm Wellington Management, showed that there’s more to dividend investing than just buying the market’s highest-yielding equities.

Wellington divided income stocks into quintiles (fifths) according to their level of dividend payouts. The first quintile, the top 20%, made up the highest dividend payers, while the fifth quintile comprised the lowest payers. The asset manager found that stocks falling into the second and third quintiles outperformed the highest-yielding equities.

In other words, while dividend stocks do tend to outperform over the long-term, looking at a company’s yield alone in isolation is a mistake.

The easiest way to find the best stocks with dividends is to screen for companies with a high level of dividend cover. This is calculated by dividing earnings per share by its dividend payout per share. When the ratio is above two, it can be a sign that the business’s dividend is well covered by earnings. A ratio below one can be a sign the payout is unsustainable.

But there’s no one-size fits all strategy for analysing income stocks. I like to use an approach that incorporates several different metrics to assess an organisation’s financial health and future dividend prospects.

A strategy to find the best stocks with dividends

A company’s ability to return excess profits to investors is essentially determined by three factors: its profit margins, its need for reinvestment, and its balance sheet.

Companies with larger profit margins have more freedom to invest back into the business and return money to investors. Meanwhile, organisations with strong balance sheets don’t need to worry about holding cash back to meet upcoming debt obligations.

On that basis, I consider three metrics when analysing a company’s dividend prospects:

• Interest cover: a measure of how many times a company can cover interest costs from operating profit. While some analysts prefer to look at the overall debt level, this does not take into account the differences between sectors and their ability to sustain high levels of debt. For example, utility companies tend to carry more debt that tends to cost less, as investors are happy to lend against their stable cash flows.
• Operating profit margin: a measure of how much income is left after paying all operating costs. A large operating margin suggests a business has plenty of cash to reinvest in growth, meet its debt interest costs and return cash to investors.
• Free cash flow: the amount of free cash available after operating costs and capital spending. Free cash flow must be positive and cover a company’s total dividend cost.

This list is designed to give me a brief overview of a company’s financial position and dividend credentials. With that in mind, here are my top ten stocks with dividends based on the above criteria:

All of the above support dividend yields of 3% or more, generate lots of free cash and appear to have strong balance sheets.

They also cover a diverse range of sectors. That’s another important quality to keep in mind when adding dividend stocks to a portfolio – buying companies across a range of sectors can provide some protection against changes in the economic environment.

Britvic (second on the list above) is the perfect example of what I’m looking for in a top income stock. Last year the soft drinks group generated a free cash flow from operations of £176m, leaving plenty of room to fully fund its dividend, which cost £75m. Interest on the company’s debt of £18.5m was easily covered by £161m of operating profit and the group has earned an average operating margin of 10.5% for the past decade.

Interestingly, the company’s net gearing is relatively high at around 150%, which would be enough to exclude the stock from any screens that take overall debt levels into account. However, this ratio does not take into account the intangible assets, which are a vital component of the business for firms like Britvic. The value of its soft drinks brands is not reflected on the group’s balance sheet. Therefore, they won’t be reflected in any gearing ratio figures. Still, as my numbers show, Britvic’s debt is quite sustainable.

Moneysupermarket.com (sixth on the list above) suffers from the same issue. The company’s net gearing ratio sits at around 40%, but its biggest asset is its brand, the value of which is not reflected on the balance sheet. Interest costs of £3.2m a year are easily covered by operating profits of £73m.

Research shows that in the long-term stocks with dividends can outperform the rest of the market. The organisations with the most sustainable dividends tend to be those with the strongest cash flows, fattest profit margins and sustainable debts.

SEE ALSO:

Five dividend stocks to beat inflation

The ten highest dividend yields in the FTSE 100

The ten highest dividend yields in the FTSE 250

The ten highest dividend yields on Aim

The ten investment trusts with the highest dividend yields

FTSE 100 companies will earn a record £169.7bn in 2022, reckons investment platform AJ Bell. In total, they will return £114bn of that to shareholders, which so far looks likely to consist of £81.2bn in dividends and £32.7bn in buybacks. The biggest payer is mining giant Rio Tinto, which shows just how far miners have come since the last commodity cycle. Boom and bust cycles have been a feature of mining ever since humans first discovered the dirt beneath their feet might be valuable. The rise of China in the mid-1990s and early 2000s set off a super cycle, which saw prices boom for the best part of two decades.

Miners borrowed huge sums to expand their output to meet what seemed like never-ending demand. However, when the bubble burst in 2011 and a bear market in commodity prices ensued, miners bore the brunt of the financial fallout. In 2015, Morgan Stanley analysts estimated that between 2005 and 2014, the three largest miners – Rio, BHP and Anglo American – had spent $246bn on capital projects, and as a result, overloaded the market. Prices crashed as supply surged and the trio lost $48bn in total between 2011 and 2014.

Yet that rude awakening set the scene for today’s boom. Miners mothballed extravagant projects and slashed costs. Now they prioritise financial stability and investor returns over growth, eschewing debt-funded capital growth in favour of funding from cashflow. Investors are reaping the benefits. Take copper, used in everything from renewable energy projects to mobile phones. As miners have tightened their belts over the past seven years, the copper supply has dropped even as demand has grown. Former Glencore chief executive Ivan Glasenberg told the Qatar Economic Forum last year that the copper supply needs to double by 2050 to meet demand.

A similar story is being played out across other commodities – good news for the big players. BHP (LSE: BHP) and Rio Tinto (LSE: RIO) mine everything from iron ore to rare earth metals. In a volatile, cyclical industry, this diversification is appealing. Rio reported record results for 2021, and declared its highest dividend ever of $10.40 a share, including a $2.47 special dividend. It ended the year with $1.6bn of net cash. Analysts expect a $8.62 payout for 2022, giving a forward yield of 10.9%. In its first half, BHP’s profits jumped, net debt fell to $4.2bn from $12bn and it announced an interim dividend of $1.50. Analysts expect a full-year dividend of $4.34, giving a prospective yield of 9.4%.

These yields may not last if commodity prices start to moderate, but with little debt, these miners have plenty of financial flexibility to balance investor returns and growth spending.

SEE ALSO:

Why investors should consider adding Glencore to their portfolios

On a "real" life basis, last year wasn't much fun for anyone, to put it mildly.

Even if you managed to avoid being hit directly by Covid-19, you might have lost your job. And even if that didn't happen, you still spent lots of time being stuck in the house and unable to do all the things you'd want to.

But from an investment point of view, 2020 was a much more mixed bag. The crash in March was a scary moment. But if you held on - or better yet, bought in - you'd have ended the year feeling pretty happy with your performance.

However, one group might still be feeling the pain – income investors.

So they'll be pleased to hear that some good news is coming their way – dividends are bouncing back fast...

Why the term "income investor" is a bit misleading

I've always felt that the term "income investor" is a little bit misleading.

What we really mean when we talk about income investing is "someone who needs money from their portfolio right now on a regular basis" rather than "someone who is saving up for the long run and doesn't need to touch the money".

Either of those types of investor might want to put money into traditional "income" investments such as blue chip dividend payers or solid corporate and government bonds. Even if you're saving for retirement rather than spending now, then reinvesting dividends is a great way to grow your nest egg over the long run.

Similarly, those who need an income today shouldn't get too hung up on where it comes from. Parking the tax implications for a moment, you can turn capital gains into an income just as readily as an interest or dividend payment. It just requires a slight adjustment of mentality.

So it's a bad idea to pigeon-hole yourself as either type of investor. It can lead to you being drawn to the "wrong" investments.

For example, would an income investor own bitcoin? Probably not. But they might equally be drawn to high-yielding, high-risk investments which are no more suitable in reality, but which appeal because they have the promise of that fat percentage yield dangling off the end of them.

You all know what I'm talking about.

So you're really describing a difference in risk appetite and time horizon (which are, of course, tightly interlinked) rather than an explicit set of investments.

That said... (there's always a "but") – I do have a soft spot for dividends for a couple of reasons.

Firstly, they are simple. A dividend is just cash in your pocket. That's very hard to fiddle and there's no judgement call required from the company in terms of market timing – both of which are potential problems with share buybacks, the other main way that companies use to return cash to shareholders.

Secondly, they are harder for management to mess around with. If a company cuts its dividend, shareholders generally don't like it. It's a clear sign that something has gone wrong, and that somewhere along the line, management has made a mistake - they've overpromised and underdelivered.

So they function as an accountability mechanism in a way that buybacks just don't.

This does not mean that buybacks are bad. When companies explain their rationales clearly (clothes retailer Next is probably one of the best examples here), there's nothing wrong with them. However, not all management teams are good at this stuff and so it's nice to have that safety rail there.

Lessons for income investors from the pandemic

Anyway, on that front, investment-wise, dividends were perhaps the biggest casualty of Covid-19.

Companies slashed their payouts back to 2017 levels on a global basis. The UK was particularly bad, with payouts dropping by just over a third, according to a report from Link.

However, the good news is that, according to the latest global dividend index from fund manager Janus Henderson, payouts will be back to pre-pandemic highs within the next 12 months, hitting just under $1.4 trillion this year. Payouts in the second quarter in the UK were up 60.9% year on year (the rest of Europe was even higher, at 66%).

What happened? Governments stepped in to support businesses in an extraordinary way. Demand recovered much more quickly than expected once the economy started to open up again. And as a result, companies found that they had been overly pessimistic – particularly the banks who were planning on having much bigger bad debt levels than actually happened.

If you are an income investor (or "an investor reliant on income from a portfolio", to put it more accurately), you might be breathing a sigh of relief. But it could've been very different. I remember predictions not so long ago that it would take years for dividends to recover to pre-pandemic levels.

It's also worth noting that UK dividends - while rallying - are still a ways away from recovering their pre-pandemic levels.

So what should you learn from this? Global diversification for sources of dividend income is an important one. But I think the most important thing is to ensure you always have a cash cushion. You don't want to be forced out of the market at the worst possible time (eg March 2020) because you have no other choice.

If you have – ideally – a couple of years's worth of living expenses saved up, you can draw on it in an emergency without having to worry about what your portfolio is doing. It's also useful psychologically – having that cushion there acts as a buffer against panic, a benefit which is massively under-rated in my view (another topic I discuss in my book, The Sceptical Investor).

Transcript

Merryn Somerset Webb: Hello, and welcome to the MoneyWeek Magazine Podcast. I am Merryn Somerset Webb, editor-in-chief of the magazine, and with me today I have Richard Marwood, who is a senior fund manager at Royal London Asset Management and the manager of the Royal London UK Dividend Growth Fund and the Equity Income Fund.

Now, I know this is going to be particularly interesting to all of those of you who have been horrified by the fall of annual dividends over the last year and are desperate to know when you're going to start getting your money again. So Richard, welcome. Thank you so much for joining us.

Richard Marwood: Thank you for having me here Merryn.

Merryn: I wonder if we could just start perhaps, if you could tell us a little bit about the two funds that you run, what the difference is between them, because they sound kind of similar?

Richard: Well, they are similar in that they're both focused on dividend-paying stocks. The slight difference in them is that the Dividend Growth Fund doesn't have to yield more than the equity market does overall. And it plays in the peer group against all other growth funds. But the income is still a very important part of the strategy. And it's not that we're investing in very, very low yielding or nil-yielding stocks, it is still focused around dividends, they just don't have to be particularly high.

The main Income Fund is a classic equity income fund where you're putting together a portfolio that will yield more than the market overall.

Merryn: OK, so the Equity Income Fund, is that mainly aimed at retirees? Who are the investors? Institutional investors or individual retail investors trying to deal with their pension freedoms? Who's in these funds?

Richard: It's a real mixture, to be honest, we've got institutions, we've got some, a lot of charity clients, council clients. We've got individuals, it's a very wide range. It's suitable for lots of different types of people.

Merryn: OK, brilliant. Well, let's talk then about what has happened over the last year because obviously, your funds will have been hit very hard from March onwards last year, when companies started to slash their dividends.

Richard: Oh, yes. It was a very, very tough year last year for income funds. For UK equity in general, it wasn't an easy year, but it was particularly difficult for the equity income space, because a lot of the higher paying dividend companies were particularly badly hit.

But the UK market found itself in a particularly problematic place, I think, last year, because the shape of our market make it very susceptible to Covid hits; we've got large amounts of consumer and leisure types of stocks, things that are reliant on physical activity, like the oil companies, that make a large part of our market. And so it wasn't the place to be.

Also, then there was the issue that we didn't know exactly what was going to happen with Brexit. And that put off a lot of overseas investors. And the icing on the cake was that the UK market was probably seen as particularly unsuitable for the theme of ESG because we've got a lot of mining companies, and because we've got a lot of oil companies.

So there are lots of reasons for people not to want to allocate towards UK equities. And that got reflected in valuations. If people aren't keen on an asset class, it does tend to go down because you'll get more sellers than buyers.

Merryn: Yes. So, basically, we have a market that is geared towards the world on the move, not a world that's stuck at home, whereas the US has a market that is much more geared to people being stuck at home, in a nutshell, right?

Richard: Yes, they've got a the much bigger tech weighting as well, and tech came to the fore last year as people were doing things remotely rather than physically.

Merryn: And Brexit: that's finally been resolved, or I'm sure lots people will think it hasn't been resolved, but it's been resolved as much as possible. Do you think that foreign investors have now forgotten all about it, in that before it was resolved, when you asked foreign investors what it was about Brexit that made them nervous, they weren't really entirely sure. They just wanted it resolved, out of the way, something that was no longer sitting around in their strategy papers as being scary. Have they just forgotten about it now? Does it matter anymore?

Richard: I think they've probably moved on, actually. The main thing that most investors hate is uncertainty, and no one really knew exactly how Brexit was going to play out. And lots of people were talking about really quite scary scenarios of lots of goods stuck at borders, big shortages of goods in the UK. And while there have been quite a lot of teething problems, it hasn't been the disaster that some people maybe feared it would be. At least now it feels like a known quantity.

Merryn: Now, you say people feared – I think lots of people were longing for it to be a disaster. Lots of disappointed people. But it's a bit like Covid. It really tells us something about corporate capitalism, doesn't it? I've been absolutely amazed.

We've had Brexit and various issues and problems and-non problems around that. We've had the shutdown of the global economy. But for us here in the UK there's been almost no obvious dislocation. You know what happened for about three days in March last year? Some shops ran short of loo paper. But apart from that, the companies of the world have somehow managed to keep the global economy going such that we haven't really been short of anything or noticed any particular change. I think it's rather amazing.

Richard: Definitely. If we think about the job that the supermarkets did last year, they did an absolutely remarkable job in dealing with a huge surge of demand, clearly, because everyone was buying all their stuff from the supermarkets rather than going out to cafes and restaurants. And we dealt with that well and good.

Merryn: Yes. And the way that the the restaurants shifted to delivering meals to you directly, and the way that logistics companies ramped up their supply, etc. I really think that everyone should look at the last year and go, "wow, capitalism, so great". That's not what they're doing, but I think they might be making a mistake.

Anyway. Onwards. So what can we expect now? We're looking around us in the UK, we're seeing these all the restrictions finally being lifted and weird stuff about – there was a newspaper headline yesterday about our new freedoms, as opposed to our actual freedoms being returned. But that's not for this podcast.

But here we are moving into an environment where we're getting back to our old lives where there is a huge amount of cash in people's bank accounts, the saving rate has gone absolutely berserk – nearly 30% at its peak – so people have a lot of spare cash. The sun's out, well it is an Edinburgh where I am anyway, and everyone's about to get out and about again.

Are you a believer in the idea that – I know the UK did not have a Roaring 20s in the last century, that was the US – but are we about to have our own Roaring 20s here in the UK?

Richard: Well, there certainly is an awful lot of pent up demand. And, as you say, there's both the demand and, in many cases, the ability to pay for it. Because people – if they have managed to keep their jobs in the last year – haven't been spending very much and they have saved a great deal. So yes, all the evidence that we're seeing is, as the restrictions start to ease, people are very, very, very prepared to go out and spend, be it on going out to eat, or going back to the shops

There seems to be something of a housing boom going on, and people who aren't moving house are also spending more on their houses, because they spend more time at home, they're doing them up and making them as nice as possible. So there is a lot of spending going on.

Probably the the area that we haven't really got to the bottom of yet is what's going to happen with travel and people going on holiday because that might take a little bit longer to recover, because it's still not absolutely clear that that's going to be straightforward and back to things as they were.

But yes, things are normalising and that's what we're seeing. And when we look at a lot of the corporate results, they've generally been quite reassuring, it has to be said.

Merryn: Yes. On travel, though, isn't it – well, for me personally, I would very much love to go to Greece for a couple of years – a couple of years? A couple of weeks, I was going to say! Or forever! – we’ve just been through another Scottish election; everyone wants to go to Greece, or somewhere.

But in a way, isn't it slightly better for the UK economy if travel abroad stays difficult? And in fact, that we do all holiday here, we use up every cottage, every hotel room, every restaurant reservation and bring our own hospitality industry back up to speed? Isn't that maybe slightly better for the economy? If not for perhaps our mental health.

Richard: Well it would certainly keep a lot more money in the economy. The question then would be the ability to deal with it. Because firstly, it would probably be a little bit more demand than the leisure system is normally used to dealing with. In the last year, we've seen a little bit of destruction of supply, because unfortunately some people will have gone out of business. And if you've then got an awful lot of demand to cope with it, it might be tricky.

Which does lead me on to thinking that there may be an element of inflationary pressure. Because if you haven't been able to go out and eat in a restaurant for the last year, if you go out now and all of a sudden a main course has gone up by a couple of pounds, chances are you won't really mind paying it. And you might find that if you're in a village that used to have three or four pubs, it's now only got two or three, so it's a bit more of a consolidated market and they've got a bit more pricing power. So I think that's one risk that we've got to keep a close eye on.

Merryn: Yes, interesting. Finally, next week in Scotland, you'll be able to go out to dinner, sit inside and have a drink, which is exciting, because you can't rely on being able to sit outside here. And when my husband rang to try and make a reservation at somewhere we wanted to go earlier in the week, we were told that the actual reservation itself cost £20.

Richard: Really? And that wasn't a minimum spend? That was just to get the slot?

Merryn: It wasn't clear; he did it online and it wasn't clear whether the money would be set against our gin and tonics or not. We'll find out; I'll report back.

Do you think that inflation will just be a flash in the pan? Or do you think there's something more long-term going on? We've heard a lot about the difficulties in supply chains. And we've seen sharp rises in a lot of commodity prices. And also, of course, there is the shortage of chips.

So there are a lot of things happening in the supply chain that suggest that there is much higher inflation than a lot of people are prepared to accept coming. But is that just a blip? Or is it a more long-term dynamic, a swapping round of the last 30, 40 years of low interest rates and deflationary pressure?

Richard: It's tricky to know. But there certainly is an awful lot of inflationary pressure. There is that supply and demand thing that we've talked about already, as you say. Commodity prices have been very strong, and we may be looking at a world that is going to be slightly less global. So people might look for maybe shorter supply chains, rather than necessarily just the cheapest supply chain.

There's been a lot of money pumped into the system, and I think the thing that might be different this time round to the great financial crisis would be that last time when money was created by governments, a lot of it just went and sat on bank balance sheets and didn't necessarily go anywhere. But this time, a lot of the stimulus has been direct to individuals and direct to companies – it's furlough, it's various kinds of support. So it's, it's actually gone, and it's out there in the economy.

So there are reasons to think that inflation could pick up. The only thing that really hasn't come through yet is wage inflation, but I think if we get to a stage where there is significant wage inflation, then inflation almost becomes a self fulfilling prophecy, it becomes a reinforcing loop. And the thing that we don't know yet, just to come back to what we were saying about Brexit, is labour availability. Is the labour market tighter in a post Brexit world as we get fewer people coming across from the continent?

Merryn: And also there may be a shift in what people are prepared to do, or not prepared to do. Getting people back into offices may involve paying them more to do so; may involve bonuses; may involve all sorts of different things.

And we're certainly seeing in the US, aren't we, where unemployment benefits have been unbelievably generous – or surprisingly generous, should I say – over the last year or so this dynamic of people saying, “I don't really want to go back to back to work full time for the amount that I was paid before”, and the price has gone up. So that may well feed into wage inflation across the board.

Richard: Particularly because, as we mentioned earlier, if you've been employed in the last year, and you've been working from home, it hasn't cost you very much to go to work. So actually to be in an equivalent position when you go back to the office, you probably do need to be paid a little bit more.

Merryn: You need to be topped up a bit. Yes. Oh, interesting.

OK, so let's go back to dividends. When can my long suffering readers expect the cash to start pouring into their pockets properly again? When will we see dividends back up in the UK at the levels that they were, say, in February last year?

Richard: Well, to get back to that level may well take a little while. At its worst last year, we probably saw dividend cuts down around 45%. But that was at the worst. And what we've seen since then is many companies starting to resume dividends again.

So if we think about why companies cut last year, some of the sectors were told that they weren't to pay dividends. If you look at a bank, or some of the insurance companies, they were told by the regulator, just please don't pay dividends, because we want you to keep the capital as a safety buffer.

Some companies were just being prudent; they didn't really know how things were going to play out, so they thought they'd just hold back the money. And a lot of them have actually come back later in 2020 and early 2021 and started paying them and some people have even actually paid catch-up dividends as well.

And then there was a sort of third camp. There were some businesses that were genuinely fighting for survival. So if you were a business that was reliant on leisure or tourism or travel, you were trying to absolutely minimise your cash burn. And you're probably still in that mode. Those are the businesses that haven't come back to paying dividends yet.

So when we look in our portfolio – we own something like WH Smith, which as you can imagine, is reliant on people going through train stations or going through airports. They're still in a mode where they don't want to be letting in too much cash leave the business until the business fully recovers. So it's a business that we like, but they're not back on the dividend list yet, but many other things have already returned.

Merryn: You're confident holding WH Smith? Presumably it's quite cheap?

Richard: Well, yes, it's recovered a long way actually. One of the things that makes us a bit more confident there is that a lot of their business is in the US now. And if you look at the amount of traffic that's going through US airports, because so much of it is domestic, that's recovered quite a long way already. So there's plenty of reasons for optimism there.

Merryn: Right, let's have a look valuations across the board then. We've been writing at MoneyWeek for about a year now telling everybody the UK is cheap, the UK is cheap. It's cheap, you should buy the UK. Obviously, that would have been a mistake in March last year, but it's come good now. Is the UK as a whole still cheap relative to global markets?

Richard: Certainly it is relative to other markets. Now, I think one really strong proof point on that is how many bids you've seen come through into the UK market. A lot of investors may have been allocating away from the UK in 2020. But towards the back end of the year, we started to see lots of corporates stepping into the market.

So in our own portfolio, we had McCarthy and Stone, the retirement house builder, that got bought by private equity. Signature Aviation was acquired by private equity as well. And we've also seen other bids elsewhere, mostly from private equity. So you can see St. Modwen being bid for this week; John Laing's had a bid approach; Agrecco has had a bid approach.

There's a lot of money out there in the private equity world. And it's looking at some of these quoted equity valuations and thinking, well, actually, there's an opportunity here, and they're stepping in to try and take advantage of that.

Merryn: Does that worry you? One of the things that we've written about a lot over the last decade or so is this shrinking of the listed market, and this idea that as the markets shrink – or the markets that everybody has access to shrink – you get undesirable effects. Like, perhaps, it's one of the drivers behind rising wealth inequality, if all of the growth is happening off market; and perhaps it's one of the drivers of people feeling a little iffy about capitalism, because the companies that they know the names of they can't actually buy publicly.

And then there was a study about a decade ago, showing that as the number of listed companies in any one country falls, so the government, driven by voters, becomes less pro-business.

Richard: it certainly does, because to an extent, it doesn't tend to be the worst businesses that get acquired, it's often the best businesses that are doing interesting things or have got an interesting market position or an interesting technology. If it's your best businesses that have been bought by other people, then that is a worry.

I think also, there's an element of concern around. At least when a business is in the public market, it is very visible, it has to adhere to quite high governance standards. A lot of its activities are very visible to shareholders and to the public. But once things move off market, clearly that visibility reduces and in a time when we're all very keen on governance and scrutinising what companies are up to, it is harder if they're not quoted.

Merryn: Yes, well, that actually brings me to something I wanted to talk to you about, which is that if you look at some of the stocks in your portfolio, so Shell and BAT and Rio Tinto and all this kind of thing, a lot of the ESG advocates will say, well, that is not a suitable portfolio. It's not an ESG portfolio. Basically, it's an anti ESG portfolio.

But I suspect that one of the things you might say is, do you want these companies listed where we can watch them? Where they're forced to have ESG strategies of some kind or another? And what they do is transparent? Or do you want them off market because we've let them get so cheap that private equity picks them up? Is that the way you would look at it?

Richard: That's certainly one of the angles that we look at it. There is that visibility, there is the ability to engage with these companies and influence what they do. And ultimately, when you look at something like Royal Dutch [Shell], or you look at Rio Tinto, they do things that make the economy function the way that it does; we still need them to be around.

I know, there are lots of question marks about oil. The world might be falling out of love with oil, but it's not falling out of love with energy. There are more people in the world all the time consuming more and more energy, and it's got to come from somewhere. And you need someone to help develop the infrastructure to achieve that. I think we need to encourage these companies to invest in those areas and help us develop the energy transition.

Merryn: Apart from everything else, we still need the oil, right? We need the oil, and this idea that we can suddenly go oil free in the matter of a decade is nonsensical. We're going to need fossil fuels for decades and decades to come. So why would we not want to support the companies that produce it?

Richard: Well, you're quite right. The last barrel of oil is going to be burned decades and decades into the future. And there's an awful lot of infrastructure to be built up before that can happen. You do need these kind of companies to be encouraged to do it.

And in doing that, step forward someone like Rio Tinto, because if we're going to have lots of electric cars, we're going to have better electricity networks, we're going to need a lot of copper. And that's got to be dug out and refined by somebody. So these people are actually going to enable the energy transition, much as they may not be seen as the sort of classic ESG companies.

Merryn: I suppose another another point to make on some on the miners in particular is that they have quite big moats around them now, effectively, because when they opened some of their big mines a decade ago, two decades ago, it was an awful lot easier to get going on a new mine than it is now.

I'm guessing here – this is not my area – but I assume if you find somewhere you want to open a new mine of some kind, it's a multi decade business to get all the permissions and work with the local governments, work with communities, etc. It's a rather more complicated business than it might have been the old days, when you just dug a hole and got going.

Richard: Well, it's always been quite complicated. But certainly if you look at Rio Tinto's latest project, where they're building a massive copper mine in Mongolia, that's been fraught with difficulties, both political but also just technical. It's an enormous project to build one of these things. And it's often not as straightforward as you might hope.

So supply is not a quick thing to put on it, if we suddenly decided that we need an awful lot more copper. Even if we went and started today to try and expand that supply, chances are you're not going to see anything coming out of a smelter for five to ten years.

Merryn: Interesting. Now, let's talk briefly then about the commodity bull market, which has been on the go for a while. Is it on again? Are we on flash in the pan? Or are we into an environment where you think that the demand for commodities, and so this bull market, will continue for some time? I'm guessing you're going to say it's going to keep going for some time based on what you just said about energy infrastructure? But what do you think?

Richard: Well, I think that is the case. I can see why there is genuine secular demand for a lot of these commodities. And in recent years, there has been quite a restraint of supply in the mining sector. So if you've got more demand and you've got less supply, that does tend to fuel prices. So yes, I think there's, it's got some legs in it this year.

Merryn: OK, so we can still go out and buy the miners and feel confident.

Richard: Yes, we're keeping them in the portfolio. And I think they'll carry on generating the cash flows and taking advantage of these high prices.

Merryn: OK. What's your favourite stock in your portfolio? Fund managers always tell me they don't have favourites, but I don't believe them.

Richard: It's like having children: you need multiple children so there's always one behaving well. So portfolios are a bit like that.

I suppose, if you look through our largest holdings in the Income Fund, there's some fairly unusual businesses in there that take advantage of different things. One of our largest holdings is IG Group, the people that do the financial spread betting, they've benefited enormously from the volatility of the markets. People are interested in markets and they're wanting to trade those. So they've attracted a lot more customers, those customers are trading more and they made a lot of money out of it. So very pleased with that one.

Merryn: Can you use them to spread bet on cryptocurrencies? Not planning on doing that, by the way readers, I am absolutely not planning on spread betting on cryptocurrency prices.

Maybe.

Richard: I suspect you probably can, I would have to check that, I certainly wouldn't be allowed to do it myself.

Merryn: OK, I'm just a bit over-excited this morning by the story we were discussing earlier about the managing director of Goldman Sachs in London being able to retire because he's made such a fortune trading cryptocurrencies, and I'm thinking, “really missing a trick here, fiddling around with trying to make 3% to 4% a year from miners and oil companies”. We are totally missing a trick, right?

Richard: Well, the one thing I do wonder with all these cryptocurrencies is if it is an indication of how much money is being pumped into the system. The money has to go somewhere, be it into the price of art or the price of nice apartments in Chelsea or into football clubs or whatever. It has to go somewhere and maybe that excess liquidity is spilling out into the crypto world now, which is driving prices.

Merryn: Yes, I'm sorry, I interrupted you. Back to IG. It's done very well, after people being home and having lots of money.

Richard: Yes, we've pretty much covered that one. Much more prosaically, another company that we've got an income from that’s done really well for us is Dunelm. As people have stayed at home and they've decided that we'll have another cushion on the sofa, or they want to order a little bit more furniture or some new bedding. They've done really, really well. And that's despite having not been allowed to open their physical stores in the second lockdown. They've done very well online, and that seems to be a trend that they're keeping going with

Merryn: Interesting, I haven't bought any new furniture during lockdown. I've attempted to buy garden furniture... but back to our conversation about supply, demand, and inflation, everything's always out of stock. It's extremely irritating.

Richard: Well, you raise a very, very good point there. This really has tested supply chains. And as you say, it probably means that we're struggling to cope with demand. And if there's a lot of demand, then prices tend to go up.

Merryn: Yes. So maybe I should take back what I said earlier about the only consequences of Covid being a temporary shortage of loo paper. In fact, I can't buy any garden chairs. And that matters, too!

Richard: If you want a shed you'll have to wait three months.

Merryn: But I would get it in the end. And that's the key point.

Now, one stock that you have in your portfolio – I'm not sure if you have it in both – is AstraZeneca. And of course we all love AstraZenca now; I'm having my next jab next week, very exciting. But there's a massive pay row there at the moment. Do you want to tell us about that and how you feel about this?

Richard: Well, yes, there is a lot of controversy about how much the CEO is being paid. It's something that we're still watching quite closely. We haven't decided yet exactly what we think. But I think it'd be hard to say anything other than the CEO has done a very good job.

If we think back maybe ten years ago, AstraZeneca was under tremendous pressure; people thought that they were running out of patent life in their drugs, they needed some new products. And, actually, roll the clock forward ten years and they've developed an absolutely amazing portfolio of oncology drugs, showing very good growth. They've got good market shares in China, the business has really been rehabilitated. They've done a great job in terms of getting the vaccines to market as well. So it's hard to say that they haven't done a good job. It's just a matter of calibrating what is the right level of payment for that success that we've seen.

But it's interesting when you look at the Astra share price, we do own it in both the dividend growth fund and the income fund. But the shares – pretty much from the day that they announced that they've developed the vaccine – have been under quite a lot of pressure, because prior to that they were seen as a safe haven in a locked-down world. And when they actually developed the vaccine and it meant that the the economy may normalise again, all of a sudden people lost interest in that security and were much more interested in the the kinds of businesses that would benefit from the the economy normalising and reopening. So their success meant that their share price went a little bit soggy.

Merryn: So now they look reasonably cheap, under the circumstances.

Richard: Well, they're still performing as a business extremely well. And I think that does come down to one thing that's always very important to remember, when you're investing.

A business exists in two ways, really. It exists as a share price and what investors think of it. But it also exists as a real business and how well it's trading, and the two don't always marry up. So sometimes the best opportunities for an investor is when you've got a business that's operating well, and the market's less interested in it, that's when you get the best bargains.

Merryn: And back to pay briefly, do you normally vote on this kind of thing?

Richard: We are very active at Royal London, and we vote on every holding that we've got. And we engage with companies and speak to them. And we take the angle of stewardship and engagement very seriously, indeed.

Merryn: OK, so there is an ESG angle for those looking for an ESG angle on your fund. At least you're using your shareholder democracy properly.

Richard: Yes, well, I think it is a very important thing to do. Yes.

Merryn: All right. Sorry, I've been talking to you for ages and I apologise. But one last thing I wanted to ask you about.

We talked earlier about M&A, and about how that is a problem because it removes companies from public view or from the public listings, and that comes with various connotations. But one of the things that people are talking about at the moment is a new wave of IPOs in the UK and how that's exciting. I read something the other day that referred to it as a tech boom, which might be over-egging it.

But I wondered if, if you ever participate in IPOs in the UK, if you see anything coming up that you might be interested in?

Richard: We certainly look at everything that's coming. But as you say, a lot of the things that have come very recently have been more of a tech type nature. They tend to be at quite high valuations. They don't tend to be the kinds of businesses that are paying dividends. So it hasn't really been the kinds of things that are going to find their way into my portfolio.

But yes, there are a lot of businesses coming in, there will probably carry on being a lot of listings while the market's prepared to take them and while the market is prepared to put quite high valuation on these things. Then, while the demand is there, the supply will come.

Merryn: Yes. And hopefully they will mature into the kind of dividend paying businesses that can make it into your portfolio.

Richard: I'm sure some well and others may fall by the wayside. But that's the nature of the IPO market, isn't it? You have to watch these things for a while and see which are going to be the durable businesses.

Merryn: Yes, yes. OK, I know I said last question, but last last question. Some of these IPOs are coming through with this idea that it's OK to have a dual structure for shareholders so that a founder can come to market and have more power per share than an ordinary shareholder: one share, two votes, as opposed to one share one vote.

Some people would say that that's OK, because at least it means that people are more comfortable bringing their companies to market if they know that they might have more power over how it’s run over a three- or five-year period. And other people say this just isn't OK. It's not what the public market is about. I wonder if you feel that it's OK, if it at least expands our market? What do you think?

Richard: Personally, I have a bit of a problem with it. And I think the clue is in the name: equity, everyone's treated the same. And if you have these structures, then it's not equal, not not all shareholders are treated in the same way. If people want to retain the power over the company, then maybe they need to keep a larger stake rather than selling such a big chunk of the company.

Merryn: Yes, that is a good way to look at it. Wonderful. OK, that really was the last question. Unless you have anything that I haven't asked about that you really want to tell us.

Richard: Well, there's always lots to talk about with the market as well. I think we've covered quite a lot of topics.

Merryn: Richard, thank you so much. I really enjoyed talking to you. And I hope that you will join us again during the coming Roaring 20s.

Richard: Thank you. It's been a pleasure.

Merryn: Thank you very much for listening, everybody. Remember that you can leave a review for us at your usual podcast provider. Do us a favour and make it a nice one because the nicer the review, the more great guests such as Richard we are able to get on the podcast.

If you would like to hear more from the magazine and you're not a reader already, please go to moneyweek.com where you can see if you like us by signing up for our free daily newsletter, Money Morning, written by the brilliant John Stepek – well, usually written by the brilliant John Stepek.

You can follow me on twitter at @MerrynSW, you can follow MoneyWeek on Twitter at @MoneyWeek and you can follow John on twitter at @john_stepek. Thank you very much for listening.

Things are finally looking up slightly for investors who rely on stocks for income. In the first three months of this year, UK dividends fell at their slowest annual rate since the pandemic began, down 26.7% excluding special dividends according to the latest quarterly figures from shareholder registrar Link. That still sounds painful, but the year-on-year figure disguises an encouraging trend: half of all listed companies resumed, maintained or increased their dividends between January and March, compared with just one third between October and December.

The bad news is that dividends fell an unprecedented 43.1% – including both regular and special dividends – in 2020. Even though payouts are recovering and we can expect a decent level of special dividends this year, Link projects that total UK dividends will rise between 11% and 17% in 2021. That will leave them between 33% and 37% below pre-pandemic levels and unlikely to regain previous highs until around 2025.

Investment trusts may yet need to cut

This will mean income portfolios and income funds that were too reliant on a small group of high-yielding stocks, such as banks, oil and gas, and miners (which made up three-fifths of cuts) are going to be paying a lower income for some time. Many income investment trusts are likely to be able to keep raising dividends due to their ability to draw on revenue reserves (see below). But if a trust has to do this too heavily for too long, it will ultimately affect future dividends or capital gains because they will be selling assets. Two trusts have already cut (Temple Bar and British & American) and two have announced plans to do so in 2021 (Edinburgh and Troy Income & Growth). If we face several years of weak dividends, others will have to consider it.

Go global for income

There was a way to avoid this: international diversification. British dividends were very hard hit in this crisis. Even European ones fell by less, down 31.5% before the effects of currencies and index changes, according to fund manger Janus Henderson, with half of that due to banks. Japanese dividends were slightly lower by 2.3% and US payouts were actually up by a similar amount. There were hits to favoured income stocks elsewhere – regulators in Australia and Singapore capped bank dividends – but a diversified global portfolio suffered much less.

Of course, UK dividend yields tended to be higher than the rest of the world, so overseas dividends looked less tempting – but the crisis proved that many of these yields were unsustainable. Investors should not forget this harsh lesson when payouts start to bounce back.

I wish I knew what a revenue reserve was, but I’m too embarrassed to ask

Many high-profile investment trusts have managed to raise their dividend every year for decades regardless of dividend cuts by companies. The main reason for this is that trusts, unlike open-ended investment funds, don’t have to distribute all the dividends they get each year. They can hold back up to 15% to build up a revenue reserve, which they can then draw on to maintain their own dividends in years when company payouts fall.

This can be useful for investors who prefer a steady income from their funds. You could do a similar thing with your own portfolio, by putting aside 10% or 15% of your dividend income to be drawn on only during market crises. However, avoiding dipping into that requires discipline, while having it out of reach inside an investment trust doesn’t present the same temptation.

That said, it is important to understand that a revenue reserve is not a sum of money separate from the trust’s portfolio, sitting in a bank account for emergencies. It is an accounting entry: the money will be invested alongside the trust’s other assets – in stocks, bonds or something else – on which the trust will hopefully be earning income and/or capital gains. Drawing on the reserve means selling assets. Typically the amount needed would be small, but if the trust had a large revenue reserve and had to draw on it for quite a while, the portfolio would shrink by a meaningful amount, which would cut future dividend income.

Following a change to tax laws in 2012, investment trusts are also allowed to pay dividends out of realised capital gains, known as the capital reserve. A few trusts now aim to pay out a flexible proportion of their value each year, regardless of whether that comes from capital or income. Drawing on capital to maintain a fixed dividend could make sense as a one-off in a crisis, but if a trust is forced to draw on revenue or capital repeatedly, the dividend is not sustainable.

If you’d told investors at the start of 2020 that a crisis would halve UK dividends, nobody would have believed you. Yet that’s roughly what happened in the second and third quarters of the year.

A drop on that scale has never been seen before – not in the financial crisis, not in the dotcom bust, or in any previous crisis. Not even during the Great Depression did they fall so far that fast.

Still, the damage has been a little more discriminating than the headline figures suggest. And those looking to profit from a recovery should take note.

The defensive core of an income portfolio has proved its worth this year

The collapse in UK dividends this year has been unprecedented. But much of it was due to huge cuts in a handful of sectors that accounted for a large share of income.

Banking – where regulators made firms suspend dividends entirely to conserve capital. Oil & gas – where dividends had been held at unsustainable levels for years despite lower oil prices, and it took the collapse in demand to finally force management to reset them.

Many businesses kept on paying just as before. Consumer staples such as Reckitt Benckiser and Unilever. Pharmaceuticals such as AstraZeneca and GlaxoSmithKline. Drinks firms (Diageo) and tobacco (BAT). These are classic defensive businesses and they proved their value.

Investors should consider stocks like these as part of the core of an equity income portfolio, rather than concentrating on the highest-yielding companies. Their yields give you an idea of what might be sustainable, and can grow at a bit better than inflation over time. That could be topped up with higher-yielding firms to raise the overall income a bit, without putting everything at risk in a crisis (which is what happened to any portfolio that was built around the more tempting higher yields in financials or natural resources).

Of course, some of the firms that managed to keep dividends unchanged in 2020 managed to look good because they’d already taken a hit previously. Miner Rio Tinto cut its dividend in 2016 at the point of maximum pessimism for miners; it has avoided having to do so again (although not all its peers have done so well). Vodafone cut an unsustainable payout in 2018. That hurt the shares at the time, but it ended up looking better in this crisis than BT, which was one of the biggest cutters when it was finally compelled to do the same.

Missed dividends and missed opportunities

Not all defensives sailed through unaffected. In tobacco, Imperial Brands took the opportunity to slash a dividend that was also starting to look unsustainable. A few firms that did not look especially high risk still suspended payouts out of an abundance of caution. Most notably, defence group BAE, which was one of the first to reinstate its regular dividend and propose a special dividend to catch up on the one it had skipped.

There are also a few big payers where I’m surprised management didn’t use the cover afforded by the crisis to trim dividends and give themselves a bit more room for manoeuvre in future. The most obvious example is the utilities sector.

Yes, these companies enjoy stable demand and regulated levels of return, but dividend cover tends to be low and debt levels are often high. It’s sensible that utilities focus mostly on delivering steady cash to shareholders in the absence of opportunities to grow, but I cannot shake the view that the sector has pushed this as far as it can – both in the UK and elsewhere – and that a reset now might prove better in the long term.

Where investors remained sceptical

For the most part you’d expect firms that held dividends this year to hold them or raise them modestly next year. It’s worth noting that markets clearly still have some scepticism about the sustainability of yields at certain firms that avoided cutting.

Vodafone yields 6.5%, for example; investors remain concerned about debt levels, competition and whether its turnaround plan will deliver. BAT yields almost 8% – although Imperial Brands yields 9% even after cutting, so this is largely about the long-term outlook for the tobacco industry as a whole. Legal & General yields almost 7%, even though the insurer kept paying while rivals Aviva and RSA bowed to regulator pressure to suspend payments.

These kinds of stocks could do well if they maintain dividends – I would suspect that investors are probably assigning a higher risk of cuts in the short term than they would usually do, simply because of the trauma of the last few months. However, they are unlikely to deliver much growth.

Looking for stocks that can restore dividends

The most interesting opportunities may be in companies that are reinstating dividends or raising payouts that were heavily cut. Many will be starting from a much lower base and lower expectations. In some cases, the scale of their cuts means that income investors and funds may already have dumped them.

So the opportunity for them to surprise to the upside and to deliver both rising income and share price gains will be great. It’s wisest to think about this on a medium-term view – it seems pretty rash to predict what next year might bring economically when this crisis is by no means over.

The extent of the cuts means that there is no shortage of possibilities here, both in the FTSE 100 and beyond. BP and Shell could be examples of this, on the basis that they have rightly cut so aggressively in this crisis that they should be well placed for decent growth once oil demand recovers. Another consideration could be Rio Tinto, which has more than doubled its regular dividend since cutting 2016.

Companies such as these are plays on a global recovery, while a lot of other potential picks are geared to the UK economy. Examples would be the housebuilders, many of which are already recovering as they reinstate dividends, and the banks, where it’s not yet clear when they will be permitted to do so.

As far as I’m concerned the most interesting income plays on the UK are commercial-property real estate investment trusts such as Land Securities and British Land. Both have already declared that they will resume dividends at a lower level than before. Shares have rebounded a little but remain beaten down by fears that people will no longer work in offices and shop in malls. If you believe that this is overstated, you might consider this to be cheap.

Hindsight is the most useful skill in investment. That’s why in the aftermath of the collapse in dividends and the intractable problem this poses for income investors, we can see a growing number of fund managers telling us that the real mistake was investing for income in the first place. Rather than relying on the dividends or interest that investments naturally pay, investors should instead focus on generating capital gains that can regularly be sold to provide an income.

The timing of this advice is, of course, not especially helpful. But the advice itself is also suspect. Yes, regularly harvesting gains is a perfectly workable way of producing an income. Indeed, since the average retiree will not build up enough savings that they can live solely on dividends and interest, even running down capital is likely to be part of most people’s plans for later in life. Yet the idea that most investors would do better to abandon dividends leaves me distinctly unimpressed, for three main reasons.

It’s all about the cash

First, the fundamental value of an asset depends on the cash that it will produce and return to investors. In the case of a stock, this will usually be through dividends (in the US, share buybacks are equally common, but i) buybacks are increasingly funded with debt rather than sustainable cash flows and ii) dividends remain much more important in the rest of the world). So the value of a stock and the value of future dividends are linked (see below). If we don’t expect companies to deliver healthy growth in dividends, we cannot expect the continued rise in share prices needed to create a sustainable income from capital gains. If we do, it undercuts the idea that dividend investing is dead.

Second, this crisis has been peculiarly favourable to capital growth. Share prices have rebounded quickly, while dividends and earnings have collapsed. That made growth-based strategies look very good by comparison – but this market is not normal (see right). In 2000-2003 and 2007-2009, dividends fell by much less than share prices. If you relied on capital gains in those markets, you had to slash the income you took, just as dividend investors have been hit this time. The alternative was to risk irreparable long-term damage to your finances.

Finally, both strategies need careful planning. Dividend investors should build a reserve to cope with a drop in income. Capital-gain investors must draw sustainably. But the latter is trickier to do well, mathematically and psychologically. The quirks of this unprecedented crisis don’t change the principle that relying on dividends is simpler – and probably safer – for most investors.

I wish I knew what the Gordon growth model was, but I’m too embarrassed to ask

The Gordon growth model is a simple but powerful way of valuing shares based on the dividends that the company is expected to pay in future. It gets its name from Myron Gordon, an economist who originally published the method in the 1950s, and is the most common and straightforward example of a class of valuation methods called dividend discount models. The theory behind these is that the value of a company is equal to the value of all the dividends that it will ever pay to investors, discounted back to their present value (so a dividend paid in five years’ time is worth less than a dividend paid tomorrow).

To apply the Gordon growth model, you need an estimate for next year’s dividend per share (D), the long-run expected stable growth rate of dividends (g), and the investor’s required return (r). The model says that the price (P) of a particular share should be next year’s expected dividend per share, divided by the investor’s required return less the long-term dividend growth rate. Expressed as a formula, this is P = D ÷ ( r − g ).

Let’s assume that a company will pay a dividend of 10p per share, the long-term growth rate is 4%, and the investor wants an 8% return. The value of the share to this investor is 10 ÷ ( 0.08 − 0.04 ) = 250p.

In practice, we can almost never know what dividends a company will pay far into the future, but we can try out different scenarios to get a range of estimates for its fair value. We can also invert the model and work out what assumptions are needed to justify the current share price of a company and whether they seem reasonable.

The Gordon growth model will not work for stocks that do not currently pay any dividends or those where dividend growth is so high that g exceeds r. These problems can be solved by using a multi-stage model, where dividends start in the future, grow at higher rates for a finite period of time and then settle down to a steady, lower long-term rate.

BP has announced a record quarterly loss for the three months to the end of June – $17.7bn – and cut its dividend in half, says Graham Ruddick in the Times. BP’s shareholders also have a new strategy to get used to.

This “radical” plan involves transforming BP from an “international oil company” into an “integrated energy company” by boosting investment in low-carbon energy tenfold by 2030.

This is not just a dividend cut, but also a “fundamental change” away from the old “progressive dividend” mantra whereby the payouts “rise no matter what”, says Jim Armitage in the Evening Standard. Instead, cash is returned to shareholders “only when it’s been generated from the business”. This is a “jolly good thing”.

After all, while paying dividends with debt might be “acceptable” if good times are in sight, when they’re not it’s just “bad, risky business”, especially since global demand for oil has been “battered” by Covid-19’s impact on the economy and the shift to renewables.

The market seems to have regarded the cuts as “almost inevitable”, says Ed Cropley for Breakingviews: the implied yield on the shares had risen to 8% before the cut. The move will also free up cash that can be used to reduce BP’s debt to its target of $35bn. So it’s not surprising that the market has reacted positively, with BP’s shares jumping by 7%. Still, changing BP into a “successful green energy company” will be a “lot harder” than many seem to believe, especially as BP is “late to the game” in terms of investing in renewable energy.

In the wake of oil giant BP’s dividend cut this week, we’ve been talking a lot about the pain that income investors have endured. And this morning, commodities group Glencore has scrapped its payout.

And yet, it’s easy to lose sight of the fact that it’s not all bad news.

In the early days of the crisis, several companies postponed or cancelled dividends, purely as a precaution. Now that the lie of the land is somewhat clearer, we’ve seen quite a few of them reinstate their payouts.

And there’s probably more to come. So who might be next to spring a pleasant surprise on dividend investors?

The silver lining on the dividend cloud

It’s been a terrible year for dividend-focused investors. The total value of dividends paid out by UK stocks in the second quarter of 2020 fell by more than 50% year on year. To be clear, that’s much, much worse than the drop seen during the financial crisis. It really is unprecedented (there’s that word again).

On the one hand, you can point out that this has been on the cards for a while. Dividend cover (a measure of whether companies are actually making enough money to pay their dividends or not) in the UK market has been grinding relentlessly lower, meaning that companies were on borrowed time anyway.

Covid-19 gave them the excuse they needed to cut dividends back to a more manageable level. This is known as “rebasing”. What it really means is “we know we’ve been paying out too much but we were scared to cut because shareholders wouldn’t have liked it.” This is what’s happened with the likes of the oil majors, for example.

But, on the upside, that makes future dividend payouts more sustainable. Again, the oil majors are a case in point. The crashing price is forcing them to be more disciplined with their spending, and now they don’t have to break their backs to meet an unaffordable annual dividend payout. Arguably that puts them in better shape than they’ve been in for a while.

On the other hand, all of this lovely hindsight doesn’t help you much if you’re looking at a demolished income portfolio. So where’s the silver lining to this cloud?

Well, not everyone slashed their dividends because they were fundamentally unpayable. Some companies have cut them because they were forced to (banks plus some insurers). It’s worth keeping an eye on that lot, and the banks in particular, because if things don’t end up being as bad as expected, there might be a lot of recovery potential there.

Still others – and these are the ones we’re more interested in today – only cut or paused their dividends on a precautionary basis. This makes sense. If a global pandemic of unknown proportions descends on the economy, accompanied by a worldwide shutdown, there are very few companies for whom preserving cash wouldn’t be a priority.

But we’re getting a better idea of the damage done now. We’re nowhere near out of the woods, but there’s enough visibility that the companies that were being careful can now tentatively start to unfreeze their payouts.

And that’s something we’ve already seen starting.

The companies who might bring back their dividends

UK-listed companies that have reinstated their dividends in recent days include defence giant BAE Systems, insurer Direct Line, packaging firm Smurfit Kappa, property group Land Securities, and industrial firms Rotork and Spectris.

In most cases, reinstatement has been a double boost: not only do shareholders get their payouts back, but the prices have typically jumped. Direct Line, for example, gained 8% on the day earlier this week and Rotork enjoyed a similar gain.

Analysts at Peel Hunt reckon that nearly 30 companies who scrapped their dividends during the first half are likely to bring them back later this year.

Meanwhile, wealth manager Canaccord Genuity recently put together a list of 13 stocks that it reckons will reinstate their dividends before the end of the year. Of those, Rotork and Spectris have already done so.

Who are the other 11? There are four housing market plays: property portal Rightmove, Howdens (kitchens) and Dunelm (furnishings), and builder Persimmon. There’s popular Aim-listed video gaming industry play Keywords Studios. The other names include Oxford Instruments, 4imprint, Learning Technologies, QinetiQ, Softcat and Diploma.

Do I think that any of these are worth buying? At first glance, none of these companies looks particularly cheap right now (with the possible exception of QinetiQ) but you’d have to do your own research on that.

And while these stocks could get a boost from yield-starved institutional investors who are desperately trying to find dividend-paying companies for their income funds, that alone is not a reason to buy.

However, if you are a stock picker and any of these have already made your watchlist, this is another factor to throw into your rationale for investing.

You can read more about why dividends still matter in the next issue of MoneyWeek magazine (subscribe here to get your first six issues free). And if you missed Merryn’s chat with Janus Henderson’s Laura Foll, much of which was about dividend strife and the hunt for income, check it out here.

BP has finally bitten the bullet. Between coronavirus and tumbling oil prices, the oil major’s dividend hasn’t looked sustainable for some time, despite its efforts to maintain the payout. After its rival Shell cut its own dividend, it was only a matter of time. And now BP has followed suit.

So what does it mean for shareholders? And, on a wider note, what does it mean for beleaguered income seekers?

It’s about time too

BP reported its second quarter results this morning. The headline news is that it has cut its dividend in half. That’s the first time it has cut the dividend in a decade. The last time came after the Deepwater Horizon disaster in 2010.

This is a “rebasing”. In other words, it’s not temporary. The dividend won’t be doubling again in a year’s time. This is the “new normal”.

The company is giving itself more flexibility. It has plans to return at least 60% of “surplus cash” in the form of share buybacks rather than dividends in the future. Share buybacks make it easier for managements to vary payouts over time.

This is one reason we don’t like them as much as dividends, incidentally. Dividends are cut and dried, and keep the shareholders uppermost in the management team’s minds. Share buybacks leave shareholders more dependent on the management team acting in good faith. It’s a subtle power shift, and often not a good one.

Anyway, BP's cutting its dividend shouldn’t come as a shock. We wrote that it was likely a few weeks ago, and we were hardly unique in doing so.

The market clearly expected it too. If a share is trading at a double-digit dividend yield, at a time when interest rates are at 0%, you can be sure that the market doesn’t believe it will pay out. It was never going to last as the only major holdout in the oil sector.

In fact, BP’s share price is up about 7% as I write, which shows pretty clearly that the market wasn’t only expecting this, but hoping for it. It shows that BP is facing up to reality. It isn’t going to distort its balance sheet and pour all its efforts into pointlessly preserving a dividend that it can’t afford to pay.

It does of course help that BP’s second quarter loss (a mere $6.7bn) was also not quite as bad as expected – helped by “exceptionally strong” results from the oil trading unit, similarly to several of its rivals.

BP is downsizing in a sensible manner

If you’re an investor in BP, I would certainly hang on to it. The dividend yield remains at a perfectly decent 5% or so. The company outlined its future strategy as well. Broadly speaking, this involves increasing its investment in lower-carbon power sources while cutting back on its oil activities.

BP expects its refining output to fall alongside its oil and gas production. And it’s not going to explore for oil in any new countries. Meanwhile, it plans to raise its low-carbon investment tenfold.

Why does the market like this? Well, BP will reduce its debt load. And the investment in green energy is dwarfed by the money that will be saved by being much more careful with capital expenditure on oil.

Throw in the odds that the oil price goes up – because no one wants to produce it at these prices – and suddenly you’ve got quite a tasty transformation.

BP is no longer a bloated, old-school FTSE 100 dinosaur that spends money looking for a product no one wants. It’s now a disciplined company calmly sitting on plenty of reserves of a product that will become increasingly desirable as everyone realises that the oil era might not end quite as quickly as they wish it would. Meanwhile, it’s investing tentatively in promising new areas of green technology.

So all in all, not a bad result.

Of course, that still doesn’t help investors who are wondering where all the good dividends have gone.

You can certainly argue that it’s short-sighted to focus purely on dividends. There are plenty of ways to generate an income, including via realising capital gains.

But dividends are still an important part of any income or investment strategy, and I absolutely sympathise with those of you who see them as a cornerstone.

On that front, my colleague Merryn recently did a video interview with James Dow of Baillie Gifford’s Scottish American Investment Company (Saints). Among many other things, James talks about how to go about finding sustainable dividend payouts, and why it’s worth looking beyond the UK to do so.

Sign up to watch the video here. And once you’ve watched it – or if you’ve already watched it – I'd love to get your feedback. Did you find it useful? Is this something you’d like to see us do more of? Please do let me know at editor@moneyweek.com.

I can’t get back to everyone individually but I do read all of your emails, so it’s a good way to give us a steer on what you’d like to see in the future. Check out the video here.

“Who cares about earnings?” That was the headline on an article about valuing UK shares in The Statist magazine in December 1962.

The author, an anonymous “investment analyst of one of the large institutional funds”, was worried. Dividend payout ratios had been rising fast over a “few joyous years”, and the UK market was on an average yield of over 5% against 3.5% in the US.

Individual equities were being valued largely on their dividend payout and growth levels. Earnings growth was being ignored – such that “the effect on share prices of one unit of dividend paid out is much greater than that of one unit of retained earnings”, the author said.

In the 13 years from 1951 to 1964, earnings in the FT index grew about 47% (roughly by inflation) and dividends by 170% – share prices rose 163%. If you are an income investor that might make sense to you (a bird in the hand being worth two in the bush), but it comes with problems.

Dividend cover is falling to dangerous levels

First, said our nervous analyst, fashion was changing. Analysts were more “cognisant of America where everyone (including the housewife) thinks in terms of price/earnings ratios and earnings per share.” The “sophisticated” were soon to do the same in the UK, something that might hit companies that were too focused on the short-term glory of providing a good income to their shareholders. But more important was the fact that dividend payout ratios had “in most cases reached a point beyond which directors are very wary of advancing”.

Dividend cover, the ratio of a company’s income to its dividend payout, had fallen from three times to below the two-times level generally considered to be safe. That meant earnings would now become an “inescapable determinant of dividend increases”. Only if they rose could dividends still rise. It was time, The Statist’s readers were told, for investors to stop fussing about dividend growth and start fussing about earnings growth.

How times don’t change. You could have made many of the same arguments in the UK last year. In 2019, 26 of the firms in the FTSE 100 were set to pay out dividends of over 6%. That would have been nice but for the fact that the index ended the year on an average cover of only 1.5 times.

Falling cover numbers weren’t just a thing in the UK, of course. Henderson International Income Trust (HINT) published a report earlier this month pointing out that not only had global cover fallen from 2.9 times in 2010 to 2.1 times in 2019 but, even pre-Covid-19, 20% of the world’s dividends were already at risk.

The fact that the UK’s dividend cover numbers were so awful in the first place has to be part of our miserable 2020 performance. The latest UK Dividend Monitor from Link Asset Services found that UK dividends fell by 57% in the second quarter. That’s worse than everywhere else except France. Three-quarters of companies that usually pay out just didn’t.

Another way to see the pain is through AJ Bell’s Dividend Dashboard. In January it pinpointed 25 FTSE 100 companies that had increased their dividend for ten years. There are now 14.

Dividends aren't dead yet

On to silver linings. The first is that Covid-19 has merely accelerated the inevitable: cuts were coming anyway. In most recessions companies try to cut dividends less than earnings fall (to make shareholders hate them less). This time, they’ve used the cover of coronavirus to do more.

That feels bad now, given how important dividends are: take them out of the FTSE 100’s ten-year return and it falls from 75% to a genuinely pathetic 20%. But if the virus has given managers the cover they need to restate dividends at a lower level – and to divert cash into desperately needed investment instead – that is good news.

Take Shell (which I hold). I bet its directors have been longing to cut the dividend but have been too scared of yield-hungry shareholders to do so. No wonder, then, that given a fig leaf they grabbed it to make their first cut since the Second World War.

Dividends are also not exactly dead. Decisions about them were taken at the height of pandemic panic, with an overlay of politics (note that half of the impact on dividends comes from the financial sector). As activity picks up we will find that the temporary halt has not fundamentally changed the long-term value of most companies. As the 1960s guru Lewis Whyte said, “the true worth of a company is the discounted value of the dividends over the period” plus whatever you get on realisation, so a consolidation that leads to lower dividends for longer is worth at least the same as one that frantically overpays in the short term at the expense of the long term.

What income investors should do

There are, however, portfolio implications from the disasters of the last few months. The first is to diversify. UK investors tend to be very keen on the FTSE 100 (which, by the way, still yields 3.5%). But there are opportunities elsewhere in the world (Japan is increasingly interesting as a high yielder) and in smaller firms. One example is Aim-listed Caretech, which might not be in a much-loved sector as a social care provider but yields a well-covered 2.8%.

If you are going for income, go everywhere for income. Can I give you a hint as to just how important are rising earnings in supporting rising dividends? The average total return from the 14 businesses on AJ Bell’s list over the past decade has been 481%. That from the FTSE 100 has been only 75%. Who cares about earnings? You do.

A second point is that if you really must have steady income from an investment, choose a trust that can hold income back in some years to distribute in tough times. HINT is using reserves this year and Alliance Trust (part of my portfolio) has announced it will too.

A third might be that cash is more acceptable than it was. In the old days a balanced income portfolio held a lump of government bonds. Unless you are happy making 0.2%, that is now pointless. But you also don’t want 100% equities in a volatile world.

Enter National Savings & Investment. Its Direct Saver account pays 1% and is 100% government backed. And if you want to know that your capital is protected while getting a hint of the adrenaline of the day trader, how about some premium bonds? The returns are random but the average return (which you won’t get) is an inflation-beating 1.4%. I “won” £50 last week. Which made me happy.

• This article was first published in the Financial Times

“British stocks have slashed dividends with unprecedented speed and ferocity,” says Link Group. Its Dividend Monitor shows that payouts to shareholders tumbled by 57% in the second quarter. British firms paid out £110.5bn last year, but Link Group says that figure will fall below £61.6bn for 2020. Payouts may only return to their 2019 level in 2026. This year has dealt a “bitter blow to millions of pensioners”, says Matt Oliver in The Mail on Sunday.

Those who don’t need dividend income straight away are also worse off. The annual Barclays Equity Gilt study is a reminder that reinvested dividends are crucial to long-term returns. Without dividend reinvestment, £100 invested in UK equities at the end of 1899 would be worth just £193 today, adjusted for inflation. With payouts reinvested, that figure jumps to £35,790 in real terms. The dividend pain is overdue, says Jonathan Jones in The Daily Telegraph. British income shares “have the least amount of dividend cover of any other market in the world”, according to Henderson International Income Trust. The average global company made 2.1 times as much profit as it needed to cover dividends last year, but the British figure was below 1.5. Firms with dividend cover below 1.2 are particularly likely to cut payouts. The London market contained 57 such “dividend traps” at the start of the year.

This year’s payout pain could pave the way for a healthier investment culture, says Iain Wells of Kames Capital. The rebasing of dividends frees up the funds that one-time dividend stalwarts need if they are to invest in fresh opportunities. As for British income investors, instead of crowding into a “narrow set of compromised high yielders”, such as Shell and BT, they will now need to explore the full breadth of the market.

The coronavirus-induced collapse in dividends has highlighted a huge problem with the UK stockmarket for investors that rely on it for income. A relatively small number of sectors and stocks have become a very large component of total dividends: banks, insurers, energy and resources together accounted for more than half of UK dividends a year ago, according to data from Link Group, which maintains the shareholder register for many large UK firms.

With companies large and small cutting payouts to preserve cash, the headline figure for 2020 is set to be grim. Regular dividends will be down by around 40% year on year – possibly almost 50% if you include special dividends, which were obviously much more prevalent last year. But the damage for many income funds may be greater. In order to show prospective investors a decent yield, they will have crowded into many of the higher-yielding stocks that have been most affected by the crisis.

Individual investors don’t need to fall into this trap. They can design a portfolio tailored to their own situation, maybe targeting a lower immediate yield in exchange for more stability or growth . And while we are by no means through this crisis, there are already some lessons to be learned about building a dividend machine that can cope with a crisis on this scale – as well as a few clues about where to look for opportunities as the recovery gets under way.

Building on the bond proxies

Traditionally, the foundation of many income portfolios would have been high-quality bonds from governments or top-rated companies. These provided a steady, reliable income to underpin higher but more volatile yields from other sources. But yields on these are tiny or even negative, unless you’re willing to buy very long-term bonds – which would expose you to the risk that inflation rises sharply in the decades ahead, hugely eroding the real value of your income.

This makes little sense in a balanced income portfolio (although safe-haven government bonds can still have a role in an asset allocation portfolio that focuses on trying to keep your wealth steady through market ups and downs – they performed that role admirably earlier this year). That’s why investors have increasingly turned to large companies in defensive sectors with stable earnings and solid dividends – often referred to as bond proxies.

These dividends are not guaranteed in the way that bond payments are. A company can cut its dividend whenever it wants, while it can’t just skip a bond payment. But firms like this rarely do, so a diversified portfolio should deliver a fairly consistent income. In addition, dividends would be expected to rise over time – at least in line with inflation, hopefully by more – giving them at least one potential advantage over bonds in the years ahead.

Low and steady versus high and slow

Investors’ favourite bond proxies fall into two broad categories: sectors such as consumer staples and pharmaceuticals and healthcare (which typically offer lower yields and the promise of a little more growth) and utilities and telecoms (higher yields, lower growth). Payouts from the first group have been pretty good in this crisis so far: dividends from consumer staples in the UK were down just 5% year on year in the second quarter and those from healthcare up 1%, according to the latest quarterly analysis from Link.

We have seen a dividend cut from tobacco firm Imperial Brands, which had long been expected: Covid-19 has given management at many firms an opportunity to slash unsustainably high payouts without being singled out. This has been more of an issue in other sectors. BT followed Vodafone’s dividend cut last year, contributing to a 70% year-on-year fall in dividends for the telecoms sector. In utilities, Centrica has done the same, suspending a dividend that was already reduced in 2019, although other firms such as National Grid, Pennon and SSE have maintained their payouts.

Overall, then, consumer and pharma have delivered as investors hoped in this crisis, while the picture for telecoms and utilities is more mixed. Over the long term, I’m concerned about the outlook for utilities: the lack of growth opportunities, the vulnerability to an eventual rise in interest rates (both in terms of increasing the cost of their high debt loads and the risk that higher rates will reduce their appeal since they offer little more than a high yield), and the political dangers (Jeremy Corbyn may have been too off-putting to voters to win an election twice, but the idea of nationalising or squeezing electricity, gas and water companies is not and may well return). They have a role in portfolios that need higher yields now and the near-term risks seem low. But investors shouldn’t overestimate how safe they are. Conversely, after the recent cuts, telecom dividends may emerge more sustainable and more attractive than they have been, although they remain uninspiring businesses.

In my own portfolio, I favour consumer and pharma. You can’t get a high yield in most of these stocks: typically 2%-3% for consumer staples, but these should grow at moderate single-digit rates. Some pharma stocks yield 4%-5%, but this usually reflects ever-present concerns about impending patent expiries for key products and the implications for more limited profit and dividend growth. The key examples in the UK include firms such as AstraZeneca, Diageo, GlaxoSmithKline, Reckitt Benckiser and Unilever (plus British American Tobacco and Imperial Brands if you have no ethical objection to tobacco).

Look abroad for more choice

However, since the aim here is a very steady income stream, you should consider diversifying widely to eliminate company risk as much as possible, which means investing internationally for additional options. There aren’t enough good firms of this type in the UK and currency effects tend to work in British investors’ favour in a crisis anyway (the pound tends to weaken, increasing the sterling value of foreign dividends). In the US, that means firms such as Coca-Cola, Colgate-Palmolive, Gilead Sciences, Johnson & Johnson, Mondelez, PepsiCo, Pfizer, Phillip Morris, Procter & Gamble and many others – the list is much longer than in the UK. 3M, although technically an industrial stock and more cyclical, has some similar traits to these – it sells a lot of consumables – and looks unusually cheap at present.

Note that if you hold US stocks in a self-invested personal pension through a stockbroker that fully reclaims US withholding tax, you can get the full dividend (otherwise you lose 15%). Since US yields tend to be lower, this is important in maximising your returns. Unfortunately, withholding tax on European stocks is more of a headache and relatively few blue chips look attractive for income for a UK investor once their governments have had their slice.

Still, the absence of big brewers in the UK might lead you to consider companies such as Carlsberg and Heineken. The latter is one of the few staples firms to suspend its interim dividend out of prudence, because drinks firms have been affected by the closure of bars and restaurants – hence it’s a bit cheaper than normal. AB InBev, the largest brewer, is groaning under too much debt, has slashed its dividend to help pay this down and is unlikely to grow it for a while, so I favour its rivals even though it has a higher headline yield.

Other firms such as Danone or Novartis still have yields in line with the lower end of their peers when withholding taxes are taken into account; others such as Nestlé, Roche or Pernod Ricard are lower-yielding now, but are always worth having on watch for chances to buy in future.

With the foundations of a portfolio established through companies like these, investors can then look for higher, riskier yields elsewhere.

Crisis for the cyclicals

The pain in this crisis has been especially heavy in the stocks that some investors had wrongly seen as being almost as strong as the bond proxies – those that offered attractive yields, but operated in highly cyclical sectors. Insurers, energy and resources have seen payments fall by around 50% in the latest quarter, while regulators pressured banks into suspending dividends altogether.

These were exceptional circumstances and the impact would not have been as bad in a normal recession, but it emphasises why cyclicals cannot be relied upon in a downturn, no matter how cheap they look compared with the wider market during the good times. However, after such a huge sell-off, this is an obvious place to look for firms whose dividends may be at a cyclical low or pricing in huge cuts, and may rebound well in the years ahead.

There is huge uncertainty around energy and commodity prices, but to me the top-tier oil firms – Royal Dutch Shell and BP – and miners – Rio Tinto and BHP Billiton – look like they are probably cheap on any reasonable medium-term view. Some may yet cut (I find it hard to see how BP won’t), but the market is surely pricing this in by now. When the dust settles, these are probably on a yield of 4%-5% or better, with the potential for strong (albeit cyclical) growth when commodity prices rise again. I find this theme more compelling than most other recovery-linked sectors such as banks, housing or retail, because these firms’ fortunes are geared to the global outlook for commodity prices, rather than the exceptionally murky outlook for the UK economy.

The office isn’t dead

The property sector has taken a big hit in this crisis, especially real estate investment trusts (Reits). These were widely viewed as a reliable income stream and so their cuts have been a major shock. The worst-affected sectors are offices, retail and hospitality, while others, such as warehouses and data centres, have even benefited from the growth in remote working and online shopping.

This crisis is so unprecedented that we’ve little to guide us in what will happen next, but I struggle to believe that people will stop working in offices, going to shopping centres or travelling to the extent that some wilder prognostications suggest. It may take a little while and some things will change (there will be a lot of retail casualties). But judging by the extent to which once-loved stocks in these sectors are being shunned, many investors seem to feel that it will take years until good-quality office and retail space is back in demand worldwide. In my view, that’s too pessimistic.

Hence, I’m inclined to think some Reits offer value. For example, if Land Securities, which has already announced plans to resume dividends at a lower rate in November, returned to its 2009-2011 level of payouts, it would be on a 5% yield. That’s a very simplistic way of thinking about the situation, but provides an illustration of how much gloom investors are pricing in – and suggests it might be worth taking a chance on this Reit or its chief peer, British Land.

Going for long-term growth

The most idiosyncratic part of an income portfolio is the high-growth dividend section. Most of us will agree what the safe low-yielders and the riskier high-yielders are, but will disagree on which stocks might double their dividends in just a few years. Stocks like this do nothing to boost income now (see below), but are more attractive if you’re building an income portfolio to draw on in a decade or so.

The sector with most compelling trends may be information technology, where many large-cap firms have strong cash flows and are still raising dividends. Longer-term prospects include US software firms such as Apple, Microsoft or Oracle, where starting yields are low, but cash reserves are huge and capital expenditure requirements tend to be light. Asian hardware firms such as Samsung Electronics and Taiwan Semiconductor Manufacturing have higher capex needs, but have been generating lots of cash and returning plenty of it to shareholders. Biotechnology and healthcare firms with relatively low but increasing payouts – in contrast to the mature pharma companies that already pay out a large share of earnings – may also be interesting; among my own holdings, I’d put Amgen, Novo Nordisk and Novozymes in this category.

Three more options for 5% yields

Direct investment in corporate bonds is difficult for individual investors because most bonds trade in large minimum amounts. The London Stock Exchange runs a platform called the order book for retail bonds (Orb), on which a selection of corporate bonds are issued and trade in sizes suitable for most individual investors. But a look at current yields shows the challenge investors face in trying to get a higher income from bonds.

Your choice among low-risk issuers ranges from less than 1% to lend to various utility companies for two or three years, up to about 2.9% on an HSBC bond that doesn’t mature for 13 years. You’re taking on quite a lot of interest rate and inflation risk on a bond that long, without much more immediate income than you’d get from a diversified portfolio of consumer staples and pharma.

There are, of course, higher-yielding bonds on Orb, but they are significantly riskier, especially at a time like this. If you’re willing to take on that kind of risk, I’d instead favour an ETF such as iShares Fallen Angels High Yield Corp Bond GBP Hedged (LSE: WIGG), which invests in bonds that have been downgraded from investment grade (known as fallen angels). This part of the credit market historically has the strongest long-term returns, because forced selling by managers who can only hold investment-grade bonds sometimes makes these downgraded bonds unduly cheap. Its yield-to-maturity of 4.75% compares favourably with the individual issues available on Orb. (However, it’s important to note that we don’t know how bad defaults will be in this recession, so the risk is that bond losses turn out to be greater than usual.)

The demand for income has meant rapid growth in the alternative income funds sector in recent years. I’ve invested in a few at various points – from aircraft leasing to reinsurance to secured lending – and results have mostly not met expectations. In many cases, it’s been tricky to form a clear view on what the risks are and whether the higher yields compensate for them. Many are now having a dreadful time in this crisis and the outcome may give us better insight into the long-term prospects of various niches. In the meantime, none of the exotic ones stand out amid such uncertainty. But the well-established listed infrastructure funds such as HICL Infrastructure (LSE: HICL) and International Public Partnerships (LSE: INPP) are better tested and offer yields around 4.5%-5%, with a history of modest growth.

Lastly, dividends from many Asian companies are holding up better than those in the UK, Europe and the US so far, in part because many of these countries are handling the coronavirus crisis better. They should also have stronger long-term growth prospects. I’ve mentioned two leading companies above in the context of the tech sector, but a well-run Asia-focused income investment trust should hopefully deliver a yield of around 4%-5% this year, even allowing for some underlying dividend cuts and delays. This assumes that they can dip into revenue reserves that many investment trusts have built up to allow them to smooth out dividends through the economic cycle. Aberdeen Asian Income Fund (LSE: AAIF) yields around 4.8% if the current dividend is maintained and trades on a discount to net asset value of 13%.

Markets have rebounded strongly from their lows in March. However, the damage done to dividends may take longer to recover from.

Amid the coronavirus crisis, entire sectors have scrapped, cut or postponed their payouts to investors, including some of the most reliable payers in the FTSE 100. And it could take some time for dividends to return to their peak levels. Many companies were arguably overstretched, and may now use this opportunity to rebase their payouts.

Meanwhile, interest rates remain at or near all-time lows, meaning that income from cash savings or bond markets is also scarce. So how can income-reliant investors adapt to the post-coronavirus world?

In this video, MoneyWeek’s executive editor, John Stepek, talks to Iain Barnes, head of portfolio management at challenger wealth manager Netwealth, and Matt Conradi, head of client advisory at Netwealth, about how to generate an income from your portfolio without relying on hefty dividend payouts, and discusses how investors can make their portfolio more resilient while still meeting their income needs.

Find out more about Netwealth by clicking here.

We’ve been saying for a while (and we’re hardly unique in this) that Covid-19 isn’t so much a world-changing event as a trend accelerator.

In other words, stuff that was already happening will happen faster. We’ll use more video calls. We’ll work from home more. And, reckons oil major BP, we’ll also be using a lot less oil.

Don’t bet on BP maintaining its dividend

Oil major BP has already warned that it will cut 10,000 jobs – roughly 15% of its workforce – by the end of this year, to cope with the effects of both coronavirus and crashing oil prices.

Now it has made another big move towards reshaping itself for a long term where oil is less vital to the global economy’s energy demands. It plans to write as much as $17.5bn off the value of its assets as it cuts its long-term forecasts for the price of oil. In effect, BP is forecasting lower demand for oil and a faster transition away from the fossil fuel than it had previously expected.

According to the FT, BP now expects Brent crude prices to average $55 a barrel (which is about 30% below its previous forecast of $70) over the next few decades up to 2050. It also expects natural gas prices to be a lot lower. Meanwhile, it has revised its expectations on the cost of carbon dioxide emissions up from $40 per ton to $100 per ton by 2030.

Why the big change? Under its new chief executive, Bernard Looney, BP has already talked a lot about making a transition towards being a “leaner” and “more diversified, resilient and lower-carbon energy company”.

Ultimately, that’s because – even before Covid-19 and a price war knocked the oil price for six – there is a belief that the oil era is nearing its end. Electric cars are becoming ever more popular. Carbon emissions are becoming ever less popular. The logical conclusion is that, while we’ll still need oil (I’m not sure how we’ll replace plastic in a hurry), we won’t need as much of it.

That’s bad news for companies that make their living by producing oil (and countries too – look at Saudi Arabia’s hurried attempts to retool its oil-dependent authoritarian economy).

So what does this all mean?

In the short term, I suspect this is more bad news for dividend investors. Unlike its rival Shell, BP hasn’t yet embraced the opportunity to rebase dividend expectations. But I’d be astonished if it doesn’t take the chance soon. There’s scarcely an analyst out there who doesn’t expect BP to cut its dividend and, with second quarter results coming up, it’s the perfect time to do so. It’s also trading on a 10% yield, which implies that investors know that it’s too good to be true as well.

It does rather leave income-hungry investors looking ever more forlorn, however. We’ve written several times already in MoneyWeek magazine about what to do about the great dividend massacre, and we’ll be writing about it a lot more in the near future. If you’re worrying about income generation, then subscribe now to get your first six issues free.

BP needs a plan B

But what about the longer term?

The assumptions about oil might be wrong. Maybe electric cars won’t take off. Maybe the crash in the oil price will encourage everyone – especially in the US – to go back to gas guzzlers. Perhaps Covid-19 will in fact lengthen the oil era, rather than shortening it.

But making that assumption is probably not sensible. It’s certainly a bit of an ostrich move for any oil executive.

So if you’re running an oil major, it makes sense to do two things. One is to focus on making the most of the assets you have already invested in. If oil majors genuinely think that we’re close to or even past the era of peak oil demand, then their goal has to shift from finding more oil and maximising production to maximising the profitability of existing assets.

That makes sense because either you’re right, and the assets you might have otherwise spent time and money extracting are in fact worthless (“stranded” in the jargon). Or it turns out that you’re wrong and we need a lot more oil than expected, so you just turn the exploration function back on and enjoy the fact that you can sell your existing oil reserves for more than you’d expected.

That’s what BP is doing right now. Covid-19 offers the perfect excuse to do this without it looking like yet another half-baked change of strategy, or a heartless round of cost cutting and job shedding.

The second thing is the trickier bit though. If oil is a spent force in our society (in the long run), then you need to get out of the oil business.

Yet it’s worth remembering that BP was re-spun as “Beyond Petroleum” ages ago, back in 2000, and the days of the “Sun King” John Browne. Today, 20 years later, we’re not describing BP as an energy company. We’re still describing it as an oil company.

Thirty years is a long time. As a CEO, you can say you’ll be net-zero emissions by 2050, and you won’t be around to get pulled up on it. It’s basically meaningless, regardless of how well intentioned it might be.

The truth is, it’s not at all clear to me what BP becomes if it’s not an oil company. I don’t think that necessarily matters that much right now – I’d be happy to hang on to it, although I wouldn’t be in a rush to top up at this level.

But at some point, we need to hear more than words from BP. This might be just yet another cyclical downturn in the oil market – but I think the need for a feasible “Plan B” that goes beyond PR guff is now more important than in the past.

We’ll have a lot more on this topic in future editions of MoneyWeek – subscribe here if you haven’t already.

The outlook for income investors just keeps getting worse. Last week telecoms firm BT became the latest high-yielding British stock to suspend its dividend. A fortnight ago oil major Royal Dutch Shell reduced its payout by 66%, the first time it has cut since 1945. Taking these into account, UK firms have now reduced, suspended or cancelled around £40bn in dividends since the beginning of the coronavirus crisis – amounting to more than 40% of what they were expected to pay this year.

Overall, dividends for 2020 could fall by 53% in a worst-case scenario, reckons Link Group, which looks after the shareholder register for many of the UK’s largest firms. Since those projections include £18bn in dividends paid before the coronavirus crisis peaked, the looming cash crunch for the rest of the year is even worse than these headline figures suggests – out of £82bn previously expected between April and December, just £30bn (36%) still looks entirely safe.

Whether dividends will rebound next year is uncertain. If you look at the dividend-futures market, traders appear pessimistic. Dividend futures are a derivative whose value depends on the amount of dividends that are eventually declared in a future year – so the ultimate value of the FTSE 100 December 2021 dividend futures contract will depend on the total amount of dividends declared by members of that index in the 2021 calendar year. Current prices for these contracts on Intercontinental Exchange imply that total dividends for 2020 will be down by almost 50% from last year and will then fall a further 10% or so in 2021. They will not even come close to regaining past highs by 2026, which is the last contract currently available for trading.

It’s important to note that the market value of these contracts reflect traders’ forecasts for what will happen to dividends – and we all know that forecasts are not hugely reliable. What’s more, liquidity in more distant contracts is pretty low – in fact, there is only significant amounts of trading in 2020 and 2021 contracts in most cases. Finally, because each contract doesn’t settle until after the end of the relevant year, they should trade at something of a discount to the value of the dividends the market expects – ie, longer-term contracts will trade at a much steeper discount to allow for the fact that it will be years until the buyer gets paid and for the high level of uncertainty over how much the payment will be.

These factors suggest that it doesn’t pay to put much weight on what dividend futures imply about dividends five years from now. But it’s definitely worth being aware that people who trade this market professionally are not betting on payouts snapping back in the next couple of years.

Reality catches up with big spenders

Obviously, the outcome will depend partly on the strength of the economic recovery – if we have a rapid, V-shaped rebound, dividends will come back faster. That could happen if we quickly find more effective treatments for Covid-19, or develop and scale up a vaccine sooner than expected, or find that a combination of sustainable changes to how we work and live, combined with moderate levels of immunity in the community, makes it a manageable medium-term problem. However, there is a strong argument that even if the economy rebounds rapidly, UK dividends are not going to recover in the same way.

The FTSE 100 has had an unusually high dividend yield by global standards for quite a while. That’s partly because it has a high proportion of cyclical sectors: these tend to pay large dividends in good times, but need to cut when the cycle turns and so they trade on lower valuations to reflect that. However, a growing number of firms had dividends that would be slow to grow at best and increasingly unsustainable at worse. Among the ten largest dividend payers before the crisis hit, the average dividend cover – the amount by which earnings exceeded dividends – was just 1.4. That doesn’t provide much of a cushion.

This crisis has provided the necessary excuse for management to cut their dividends and rebase them at a level that may be more sustainable for the long term without angry shareholders calling for their heads. Those firms cannot and will not rush to restore their previous payouts when the crisis passes. In fact, management have something of an incentive to resume dividends as low as possible so they make themselves look good by growing payouts over several years.

There will still be income opportunities – we look at some ideas below. However, this crisis shows why sticking to familiar UK stocks for income – as many investors still do – gives a false sense of security. Investing around the world allows you to build up a more diversified and robust portfolio.

Look east for more options

That said, right now Europe looks only modestly more promising. Dividend futures for the Stoxx 50, traded on Eurex, predict a fall of 33% this year and 8% the following year. Many European stocks also have the disadvantage that withholding taxes on dividend income are quite high – so a 3% yield on a Swiss stock is cut to under 2% when the Swiss government holds on to 35% of that. You can claim a portion of this back, but many countries make it as bureaucratic as possible and it’s not always possible with stocks held in an individual savings account (Isa) or self-invested personal pension. I hold quite a few European blue chips in my own portfolio – but this is the biggest drawback with many of them.

US dividends are forecast to be cut less – 13% per year in 2020 and 2021. US withholding tax is just 15% for UK taxpayers so long as you complete a W-8BEN form every three years (a simple process through your broker) and that falls to zero for stocks held in a Sipp. But US dividends are low – the S&P 500 has a yield of just 2%. Company managements tend to favour share buybacks instead of dividends as much as they can (see page 13). I’ve kept many high-quality US companies as long-term holdings – but this is the world’s most expensive major market and so there are very few firms that offer obvious value as an income investment right now.

The best option for diversification and growth is Asia – notably Hong Kong and Singapore, which benefit from no dividend withholding tax. I wrote about the opportunities in this part of the world in early February. Since then, shares have got cheaper, yet dividends look like they should hold up much better than the UK. Dividend futures for Hong Kong’s Hang Seng index forecast a 20% drop in 2020, but much of that is due to HSBC suspending its dividend under pressure from UK regulators. The price of the 2021 contract suggests a modest rebound next year.

There are short-term risks: many of these countries are currently leading the world in dealing with Covid-19, but we can’t be certain that will continue. Their economies cannot avoid being affected by the collapse in demand in the rest of the world. And in the medium to long term, it’s unclear what the geopolitical and economic impact of the crisis will be – we must expect the focus on supply-chain security to bring some manufacturing back to Western countries in sectors such as medicine. There are also individual risks: Hong Kong’s political crisis has been out of the headlines for obvious reasons, but as the coronavirus passes, protests will resume. It’s just a matter of how bad the situation will get.

Still, for most of the companies I profiled back then, the investment case has been little changed by the coronavirus crisis and likely dividend cuts are limited. Investors should hopefully get a reasonably solid yield of around 5% from a portfolio of stocks like these – either by investing directly or by holding an investment trust such as Aberdeen Asian Income (LSE: AAIF). This is a fairly conservative fund that is invested in many of the firms below. It yields 5.4% (although this might fall a little this year) and trades on a discount to net asset value of about 12%.

Dividends will be trimmed, not slashed

Take the Singapore real estate investment trust (Reit) sector, where some of the big Reits that are ultimately backed by government-linked companies offer a solid cornerstone to a portfolio: Ascendas Reit (industrial), CapitaLand Mall Trust (retail) and CapitaLand Commercial Trust (offices). They now yield 5.5%, 6.5% and 5.2% respectively. However, the rental income will inevitably be affected by the crisis to some extent. Some tenants may go bust, others may need to defer their rent (the Singapore government has introduced rules to suspend eviction of commercial tenants over the next six months). And the Reits may take advantage of easements allowing them to delay distributing some of their income to shareholders, to help conserve cash at this uncertain time.

Nonetheless, Ascendas Reit’s dividend looks solid at present. CapitaLand Mall Trust and CapitaLand Commercial Trust said in their first-quarter results that they are holding back some distributable income as a precaution (although this would not be paid until after the second quarter anyway) and it’s probably prudent to assume that they will suffer a 15%-20% decline in overall payout for the year – but I’d expect that to rebound when the crisis is over. Their planned merger to create a combined office-retail Reit is on hold, but seems likely to go ahead in due course.

The outlook for Singapore’s banks – DBS (6.5%), OCBC (5%) and UOB (5.5%) – has become a little more uncertain, due to both the coronavirus crisis and the collapse in the oil price (all three had meaningful exposure to the spectacular collapse of a major oil-trading firm). Nonetheless, Singapore’s banks maintain high capital ratios and are as well placed as any to weather this crisis. DBS has already said it will maintain its first-quarter dividend, OCBC and UOB are likely to do so for their first-half dividends.

HSBC’s decision to suspend its dividend principally reflected the situation in the UK. However, Hang Seng Bank (not one of my suggestions last time), which is majority owned by HSBC, also cut its first quarter payout by 20% after the Hong Kong regulator urged banks to conserve capital. So while Bank of China Hong Kong (6.4%) suggested at its full-year results in March that it would be able to maintain its current payout (which was twice covered by last year’s earnings), there has to be a question mark over it. It would be prudent to assume a similar cut is possible – which is still much better than banks in the UK.

Hong Kong-listed China Mobile (5.6%), the largest mainland telecoms firm, only pays out around 50% of its earnings in dividends at present. HKT Trust & HKT (5.8%) and Singapore Telecommunications (6.4%), the leading operators in Hong Kong and Singapore respectively, have both indicated that they will maintain dividends this year. That said, like many telecoms, they are paying out essentially all their earnings in dividends. The threat of rising competition together with increased capital expenditure on new capabilities such as 5G mean one can’t be entirely comfortable with these dividends in the medium term (the fact that StarHub, Singapore’s second-largest operator, did not commit to maintaining its dividend at the current level in its first-quarter results was a reminder of that) – but these risks are reflected in the share price. The yield might be trimmed, but it shouldn’t collapse.

Conglomerate Swire Pacific (6.2%) says it will report a loss in the first half of the year due to the impact of the coronavirus crisis on Cathay Pacific, its airline arm. The dividend was maintained for the year just finished, but no decision has been made for the next interim dividend. Aviation is a notoriously dreadful business at the best of times, but this crisis has exceeded the worst expectations of even the most experienced investors (notably Warren Buffett, who lost billions on his investment in US airlines). Meanwhile, Jardine Matheson (3.9%) has warned that first-half profits will be significantly lower. However, its dividend is conservative – it pays out well under half its earnings – so I struggle to see it cutting in anything but the most extreme scenario.

Finally, Samsung Electronics (3%) and Taiwan Semiconductor Manufacturing (3.2%) are world leaders in electronics and computer chips and have delivered rapid growth in dividends in the last few years. These are global businesses and demand will be hit by the severe recessions in Europe and the US, but both look as if they will maintain dividends this year.

Three ways to invest for income now

Offering ideas for UK income investments right now feels like the old story about the tourist in the countryside who asks a farmer for directions to a nearby market town. “If I were you, I wouldn’t start from here,” the farmer tells him.

Nonetheless, we have to start from somewhere – and the obvious place is income-focused investment trusts with relatively decent revenue reserves. Investment trusts are allowed to hold back some of their income each year rather than paying it all out – and some choose to do this to build up a buffer that lets them maintain their dividend at times like these.

For example, City of London (LSE: CTY) has said that it intends to raise its dividend for the 54th consecutive year and can dip into reserves of over £58m (equal to more than half its annual payout) to enable it to do so. It yields 5.6%. JP Morgan Claverhouse (LSE: JCH), which yields 5.3%, has over a year of dividends in reserve and a multi-decade record of rising payouts.

Still, given the scale of the dividend cuts that are coming, investors must be aware that while trusts’ reserves can prop up payouts this year, that will be the limit in some cases. Troy Income & Growth this week said that it would use its reserves to maintain its third- and fourth-quarter dividends, but warned that it would reduce its payout next year. It has one of the lower levels of reserves among equity income trusts, so this should be little surprise – but even those with the biggest buffers are facing unprecedented cuts within their portfolios and the more they struggle to maintain dividends this year, the bigger the cut might have to be in 2021. So you can’t just buy these trusts and hope for the best – you need to be aware of how the outlook for UK dividends is evolving and what that might mean for the stocks that the trust owns.

The crisis has also shown the value of lower-yielding stocks with more defensive dividends that can be grown modestly in good times and maintained in bear markets. The safest dividends are probably firms such as Reckitt Benckiser (LSE: RB) and Unilever (LSE: ULVR), despite relatively modest yields of 2.5% and 3.5% respectively. Even traditional sectors such as alcohol are being affected by the closure of pubs and restaurants, although Diageo (LSE: DGE) and its 2.5% yield seem safe enough. The sustainability of dividends at AstraZeneca (LSE: AZN) and GlaxoSmithkline (LSE: GSK) has long been questioned by some investors, but this crisis should play to their strengths.AstraZeneca has rallied rather strongly and now yields just 2.5%, but Glaxo is on 4.6%.

The 6.7% yield on British American Tobacco (LSE: BATS) is under no immediate threat, but such a low valuation reflects long-term risks to its business. (Its peer Imperial Brands is at greater risk of cutting sooner, as its 12% yield clearly implies.)

Finally, some of the recent cutters might deliver pleasant surprises with how much of the dividend is restored when the crisis is over. It’s too early to be sure, but for once some of the banks could deliver – most obviously HSBC (LSE: HSBA) if it can benefit from the strength of its Asian business. Having reset its dividend radically, Royal Dutch Shell’s (LSE: RDSB) 4.1% yield may be quite attractive. By contrast, it’s hard to see how rival BP doesn’t ultimately cut a payout that now stands at almost 11%.

Six months ago, data provider IHS Markit forecast 10% dividend growth in the UK in 2020. This week, I got a note from a broker telling me that UK dividend payouts could fall by 30% this year. Ouch.

By Wednesday, UK banks had been ordered by the Bank of England’s Prudential Regulation Authority (PRA) to cancel this year’s dividend payments (and any planned share buybacks). That means the total cut could be revised to about 45%, or even 50%. To put this in context, during the 2008-2009 recession, the decline in UK dividends was a mere 14%.

You should find all this worrying. Dividend controls of any kind rarely tell you anything good about the future path of stockmarkets. The UK has long experience with this: there were dividend controls of one sort or another in place in the late 1950s, the late 1960s and the 1970s.

Look back and you will see that their introduction was generally a sell signal. That’s because, once introduced, they tend to last quite a long time – and if they last much longer than a year, you will suddenly find that you effectively have a portfolio of super risky fixed income products rather than one of equities.

But you should also worry because one of the great pluses of the UK equity market (for those looking to create retirement income in particular) has long been its spectacular income producing characteristics. Last year, in a world of mostly low and no yield, the average UK yield came in at over 4%.

There’s been worry about the sustainability of this for ages – not all those dividends were comfortably covered and there has long been muttering about the risk inherent in the concentration of the payouts among a few sectors and stocks. Just five stocks generated over 35% of UK dividend income last year.

We aren’t alone in our suffering, of course. In Europe, if bank dividends go to zero and other sectors see the same fall as they did in 2008, total dividends will fall by 42%, according to UBS.

The US might fare slightly better. Payout ratios have long been lower than in the UK, partly because US firms tend to use share buybacks as a variable element on top of dividends. But even with that caveat, I think we all know the US numbers won’t exactly start a party.

Reasons to be cheerful

Right – now for some reasons to be cheerful. Yes, there are economic horrors ahead. And yes, most corporate earnings numbers from here will be shocking. But shocking earnings don’t make for quite as shocking dividends.

In the 2008 recession, the oil price fell from about $140 to more like $35. Dividends were still paid. Overall, says UBS, dividends tend to fall at about 40% the rate of earnings. At the same time, controls put on bank dividends might not be as big a deal as controls usually are.

Yes, you should add the embracing of such measures to your list of long-term risks. But inasmuch as the announcement of them is a sell signal, the announcement of their end is a buy signal. This time round you got both at once (the controls are only for one year).

Confusing as a signal? Yes. But is it 1970s-style political virtue signalling hell? Not yet. Note too that UK banks came into this crisis in good shape: a year of cash preservation can only help.

That may well be the case for some of the other dividend slashers. Many of the firms that cut dividends now might not either 100% need to and would not dare do in any other environment.

But now it is different: cutting your payout could be seen as a positive – doing your bit by hanging on to cash, maintaining employment and coming out fighting when the freeze is over.

Close Brothers just cancelled its interim dividend and said it was “consistent with our purpose of helping the people and businesses of Britain”. Isn’t that nice? All the firms that take this route will be stronger in 2021 than they would have been otherwise.

You don’t need to give up your dividend income

So with our long-term investor hats on, we need to take a deep breath and look through this year. One way to do that is to look at some of the funds that can behave – in income terms at least – as if this year does not exist.

The Association of Investment Companies publishes a list every year of its “dividend heroes” – those investment trusts that have increased their dividends every year for more than 20 years (City of London is at the top with an unbroken 53-year record).

The trusts have a couple of special features that make this possible. First, unlike open-ended funds, they do not have to pay out all the income they get from the companies they invest in as dividends. So they tend to hold some back in a revenue reserve to allow them to know the ability to smooth payouts is there for a rainy day (hello rainy day!).

Second, if they run out of reserves (it’s a bit of an accounting nonsense anyway) they can pay their dividends out of their capital. You might not like the idea of having your capital paid back to you as income, but it does mean that if it is income you are after you will get it – without having to sell shares (this is what makes them such good pension freedom investments). The good news is that they shouldn’t need to do that, say the analysts at Winterflood: the median trust has 129% of the value of its last dividend held in reserve. Caledonia has close to 900%, and the Scottish Investment Trust 300%.

With that, plus the ability to pay out of capital, you have to ask why any of the 21 heroes would give up their dividend (and their record) now? None of them did in 2008.

Extend that thought to the investment trust equity income sector as a whole (not quite the same group of trusts – you can be a dividend hero without being an income trust) and you will find that dividend cutting is unusual, says Investec’s Alan Brierley.

In 2008, 11 out of 14 trusts actually increased their dividends and the only one that cut (Finsbury Growth and Income) cut by a mere 7% – despite the fact that the earnings per share fell by 17%.

For full disclosure, I am an independent non-executive director of three investment trusts (one of which is in the equity income sector).

The key here is the mindset: these trusts want to pay dividends, they can and they do. Obviously the longer all this goes on, the less certain one will become. But you could argue this is already reflected in the price – the share prices of many UK investment trusts have fallen to their steepest discount to underlying asset values since the financial crisis

So if you want to be sure you can get the income you need while staying invested (albeit accepting that you might get some of your capital back as income) some of the dividend heroes are probably worth looking at.

For extra diversification, don’t go for the highest yielding (too much risk). But do consider taking a look at Alliance Trust (LSE: ATST), Witan (LSE: WTAN) and perhaps Brunner (LSE: BUT) (I hold the first two in my own portfolio).

All have solid revenue reserves, are well diversified and offer middling yields – a combination that can give you as much certainty on your income, if not your capital returns, as you can possibly hope for right now.

• This article was first published in the Financial Times